LAS VEGAS - From subprime lenders to home equity ABS investors, attendees at the Information Management Network's Subprime ABS conference held here last week found themselves predicting - in the midst of a changing U.S. housing market landscape - how the sector will make it through a downturn.
"In the very near term, particularly for seasoned transactions, the biggest risk is going to be the Fed. It is going to be difficult to (refinance) people out," said Iris Bader, a director at TIAA-CREF, reflecting popular sentiment among the conference's roughly 200 attendees. "Looking forward, as borrowers are possibly not ready to cure themselves, I think the next thing is going to be - what are the economics of the business."
As subprime lenders prepare for an influx of borrowers nearing reset dates on their adjustable-rate mortgages, some lenders - such as New Century Financial Corp. - are working on a "wide range of modification programs" that could help borrowers who are unable to refinance. Many are expecting to be stuck in the difficult situation, with existing borrowers who won't be able to refinance into a more affordable product because they won't qualify, period. "We know we need a wider toolbox," said Ritchie Mann, vice president of investor relations at New Century.
One development that could help, at least on the rates front: a number of lenders and economists are anticipating a temporary period of higher rates followed by an ease in the Federal funds rate in early 2007, when the jobless rate is expected to climb as a result of a downturn in the U.S. housing market. The housing boom that lifted median U.S. home prices by nearly 50% from 2000 to 2005 is expected to slow to a 0.2% annualized pace this year - the worst performance since 1991, according to the National Association of Realtors.
Employment key
to default trends
How hard attendees felt subprime borrowers will be hit by declining home prices and increasing mortgage payments was generally thought to be a direct result of regional job market characteristics. "Erosion of job creation could be the one thing that could break the market's back," said Peter DiMartino, a managing director at RBS Greenwich Capital.
For example, while lenders are being hit by an increase in first and early-payment defaults across the board, (see article p.3) they say they are noticing particularly poor performance throughout the rust belt - where massive layoffs at the Big Three U.S. auto manufacturers are beginning to reek havoc on household budgets. Nearly all metropolitan statistical areas that posted annual home price declines as of June 30 were located in Michigan and Indiana, according to the Office of Federal Housing Enterprise Oversight. The two states, along with Ohio, all posted home price declines in the second quarter.
"We're getting hammered in Michigan and Ohio right now, both from a frequency and severity standpoint," said New Century's Mann. According to David Dill, president of Saxon Mortgage Services, 40% of its servicing portfolio's delinquencies are stemming from California, Florida, Texas and Michigan. "Probably in the Michigan area we are seeing the most impact," he said.
Refinancing woes
Will lenders be able to refinance their own borrowers out of trouble?
"Refinancing has been a loss mitigation tool," said Diane Pendley, a managing director at Fitch Ratings. "With that gone, defaults are going to increase sharply." The scenario is not aided by lenders, which have decreased their risk thresholds amid an influx of riskier borrowers.
"There is a huge wave (of borrowers reaching their ARM reset periods) at the end of the year, beginning of next year. Because of rate changes, a minority will not be able to refinance with us," said Amy Brandt, president and chief executive of WMC Mortgage Corp. Some lenders have tried to entice borrowers with extended fixed-rate options, but they have not taken hold.
Thinking borrowers would jump at the chance to lock in a low interest rate, WMC six months ago introduced a mortgage with a 10-year fixed-rate period and priced it within close range of its two-year fixed rate offering - but it didn't take off as the company had expected. "I think it goes down to broker greed," Brandt said. "They want to scrape in as much yield as they can."
Beefed up servicing
In preparation for a virtual wave of rate resets, lenders say they are sending out fliers to borrowers, alerting them of rate changes and subsequent payment increases. Some lamented that their behavioral scoring models - or being able to predict which borrowers are prone to default based on payment patterns - are not keeping pace with, say, the credit card industry.
Fitch's Pendley warned that retention of early stage collections employees was a particular concern. The subsector has seen a 25% turnover in personnel, she said. "And this is in a good market; finding staffing in bad times, we think, will be a problem area for servicers."
Money from above
In large part, the future vitality of many subprime lenders depends on whether or not poor collateral performance means they fall out of favor with Wall Street, and, more specifically, the CDO bid. Tiering by name has increased dramatically over the last several months, particularly in the single name credit default swap market, according to a number of sources.
According to Paul Colonna, senior vice president and head of structured products at GE Asset Management, names are trading at "dramatic differences" based on recent performance. "If you do have good product from good firms, you'll still get a bid. If not, liquidity will dry up and you will take a hit," he said. "There is really not place to go for bonds that have issues."
(c) 2006 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.
http://www.asreport.com http://www.sourcemedia.com
