The recovering U.S. housing market and macroeconomic stability are bolstering the performance of older U.S. residential mortgage backed securities, yet there are persistent challenges for the sector to overcome, Fitch Ratings said in a report published today.

The agency said rating improvement will remain limited in the near term and future upgrades are only expected to come to RMBS classes with relatively short remaining lives within sequential payment priority transactions.

Year to date, Fitch has upgraded approximately 480 RMBS bonds; it has a 'positive outlook' on roughly 800 bonds.

"RMBS securities continue to face sizeable risks that will limit the number of upgrades this year. Among them are still-high delinquency pipelines, increased tail risk caused by adverse selection, and a high percentage of borrowers that remain underwater on their mortgages," the report said. 

"What’s more, U.S. RMBS transaction cash flows remain vulnerable to servicer actions including advancing policies and modification reporting", the report said.

It was published a few weeks after holders of 170 legacy residential mortgage backed-securitizations were hit with $1 billion in losses as the result of delayed recognition of loan modifications.

Fitch did, however, note a couple of indicators of a turnaround for the RMBS sector: improving new delinquency roll-rates and declining loss severities on liquidated loans. Overall, according to Fitch, these developments have given rise to greater rating stability and positive rating momentum in 2013.

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