Just as the market for reverse mortgage loans was hitting a major slump due to lack of demand and a diminishing origination volume base, the Department of Housing and Urban Development has put in place significant changes to its Home Equity Conversion Mortgage (HECM) program which many market observers say may make reverse mortgages a more attractive and profitable asset class - and therefore a more popular asset to be securitized going forward.
Last week, HUD announced two major changes to its reverse mortgage program that may boost reverse mortgage securitizations over the next two years. Firstly, the Federal Housing Administration will begin insuring reverse mortgages in the state of Texas, the only state that did not allow reverse mortgage originations up until now. Secondly, HUD changed the permitted origination fee for new HUD-insured reverse mortgages - a change that will surely make the loan product more popular among its often cash-poor customers, senior citizens.
Under the change, lenders will be able to charge new borrowers an origination fee not exceeding the greater of $2000 or 2% of the FHA "maximum claim amount." (The maximum claim amount varies from area to area, but ranges from a low of $121,450 to a high of $219,849 in high-cost metro areas).
The new fee limit is also a cap - a new protection for borrowers - that also must include any additional fees to loan correspondents or mortgage brokers. Until now, borrowers could be charged an origination fee of any size. No more than $1800 of this fee could be paid from the loan proceeds, so borrowers had to reach in their pockets for cash to pay any fee amounts above $1800. Now, up to $3000 can be paid from the loan proceeds. With this new change, market participants are predicting that the loan product will not only be more attractive to the elderly, its prime audience, but also more profitable to originators.
A Significant Change
The policy changes may be incredibly powerful because HUD insures 90% of all reverse mortgage product.
"The HECM fee change," said Peter Bell, president of the National Reverse Mortgage Loan Association, "will help seniors because they won't have to go out of pocket to pay the origination fee, and they should benefit from greater competition among lenders because the new, more realistic fee level will encourage more lenders to begin offering HECMs."
"The recent changes that HUD made to their reverse mortgage program is going to make that securitization market grow a lot going forward," added a Lehman Brothers MBS trader. Lehman conducted the very first reverse mortgage MBS deal last year for Financial Freedom Senior Funding, for $300 million. They are slated to underwrite other reverse mortgage deals this year as well.
"HUD has increased the amount of points they can finance, making it much more profitable for originators to originate," the trader added. "They were capped by the amount of points they could charge ($1800). But with marketing and education, it was costing them more than $1800 a loan. Now that it is $3000 per loan, it puts them on a cusp where they can push and market and educate people about these loans more profitably, which will help the securitization market grow."
The Texas announcement by HUD is also expected to result in the Fannie Mae Home Keeper reverse mortgage product becoming available in Texas within the next few weeks.
"The volume of loan origination for that market is not that great right now," said David Zhai, an analyst at Moody's Investors Service. "You need big loan pools in order to securitize, and it is not very economical to securitize a very small pool. But the market needs some time and either legal or regulatory boosts and education to increase the volume. In this way, the issuer will have the chance to bundle the big pool, and go for the securitization."
A Need for Education
Though the handful of reverse mortgage securitizations did not involve HUD-insured loans, observers say the possibility exists that this product too is likely to be securitized. Moreover, at a time when major players such as GMAC Mortgage Corp. and EDS/Wendover Financial Services exited the industry due to a perceived lack of interest from borrowers, the HUD policy changes serve to drum up more widespread public acceptance for the product and increase its huge potential as a significant securitization force in years to come.
"A few years from now, there is a big, big potential for this sector as the more than one trillion baby boomers become senior citizens," said Moody's Zhai. "But the originators need to introduce this product to consumers, and let them know that it is a good option, especially for homeowners who have no cash and need this type of resource. With reverse mortgages, risk is only on the underwriter's side, because the borrower makes no payments. The potential is great, but right now, there is a gap between the actual market and the potential market."
The reverse mortgage was designed to give homeowners who are 62 and older a means of converting the equity in their home into cash without having to sell or give up the title to their home. The amount of the loan is based on whether the home is debt-free and the amount of equity in the home. Most lenders originate fewer than a hundred of the loans annually.
As of now, 100% of HUD-insured reverse mortgages are bought up by Fannie Mae. However, sources say that there have been discussions recently as to whether HUD loans would be securitized. This would depend on several factors, including how the rating agencies view the HUD guarantee, and where investors are going to bid relative to Fannie Mae's bid for the product.
One hindrance to the involvement of investors in the incredible difficulty to calibrate the risk for reverse mortgages. Repayment of reverse mortgages are triggered by a "maturity event," a "mortality event," or a "mobility event." That means that the loan is repaid only if the senior citizen dies or moves out.
"But how can you have a precise idea about a couple with an 85-year-old male and a 65-year-old female?," Zhai added. "If you don't have a good feel for the risk, how can you expect a lender to jump in? It will take a big effort for the industry to do solid research and understand the risk before they can form a consortium or investor base for bonds backed by these loans."
Replaceable by High LTV?
Despite the latest announcements from HUD, several mortgage originators either pulled out of the reverse mortgage market last year, or declined to even enter it in the first place.
According to Clif Ulrich, GMAC-RFC's managing director for product development, RFC's conduit decided not to securitize reverse mortgage product because it was "not being embraced in the marketplace."
"We reviewed the product to determine whether we want to develop ourselves as an outlet for it," Ulrich said. "And we did not, because the research I had done was telling me that companies were not satisfied with activities around the product. As people from the front-end of the baby boom enter into retirement years, the sophistication around products change. What we've already done is go into High LTV lending, so in a way, you're already achieving what you would have achieved with a reverse mortgage, to a large degree you're maximizing the capital out of a house."
In other words, perhaps the assumption that more sophisticated senior citizens would go into a reverse mortgage would "end up being negated by the efficiencies in the market at that time," Ulrich added. For instance, High LTV's allow the borrower to maximize his or her collateral position anyway.
Still, Ulrich believes that reverse mortgages have untapped advantages: "This product, I believe, is potentially ahead of its time."