Non-prime mortgage securitization has roughly doubled each of the last two years, and it shows no signs of stopping, according to Fitch Ratings.
Since early 2015, five sponsors have issued more than $1.3 billion in 10 deals, most of them unrated. Lenders and investors are growing more comfortable with new ability-to-pay standards and other consumer and investor protections that were missing from portfolios during the pre-crisis heyday of so-called “Alt-A” deals.
“Non-prime origination volume has roughly doubled each of the last two years and appears likely to continue relatively rapid growth into the near future,” the rating agency stated in a report published Wednesday.
This new crop of non-prime mortgage securitizations have thus far exhibited near-prime credit quality standards – the weighted average FICO of all 10 deals is 697, and loan-to-value ratios are under 75% – and are experiencing low levels of delinquency. This is no double helped by the high annualized prepayment rate of 40% across the deals, as credit-cured customers refinance into less expensive loans. That trend could slow, says Fitch, since the increasing competition for lenders in the non-prime space have brought loan coupons down.
Of the 10 deals, four have no 60-day delinquencies in the portfolio, and only one deal (RCO 2015-NQM1 by Citadel Servicing Corp.) exceeds 2%. The lone transaction to record a minor loss (0.03%) was Angel Oak 2015-1, a $150.3 million transaction structured by Angel Oak Home Loans in December 2015 that featured customers with average FICOs of 683.
“The early delinquency trends have been relatively low and have more alike to historical prime averages than historical Alt-A or subprime averages,” the report stated. The early delinquency trends are “reassuring” and “consistent with loans originated with solid operational controls,” the report states.
The rating agency noted that several legal, regulatory and market changes such as risk-retention requirements on lenders and ability-to-pay rules and disclosures that enforce better underwriting standards.
The most active issuer to date is Lone Star Funds’ Caliber Home Loans, which has completed five of the 10 deals. It’s also the only sponsor to achieve a triple-A rating for one of its transactions. Fitch does not see a hindrance to issuance if the deals are ratings-capped due to underlying credit quality or insufficient operational or performance history, however.
Even with rapid growth, the market will of course remain a sliver of its pre-crisis level when more than $2 trillion in “Alt-A” and subprime RMBS deals were issued at a pace of $60 billion a month.
Fitch is using “non-prime” to describe the present deals since the collateral of these newer deals do not fit legacy Alt-A profiles (which were brimming with stated-income, interest-only and negatively amortizing mortgages).
Caliber’s $782 million in non-prime RMBS deals began rolling out in August 2015, but its first publicly rated deal (COLT 2016-1) was issued only in June of last year. Angel Oak Home Loans and sister firm Angel Oak Mortgage Solutions have originated loans that have been compiled in three unrated transactions with an aggregate notes value of $437.3 million – two involving Angel Oak loans serviced by Select Portfolio Servicing and the third by Shellpoint Mortgage.
Nationstar also completed an unrated transaction in October that was backed by mortgages primarily originations from RPM Mortgage.
One reason for the growing consumer interest in non-prime mortgages is difficulty in meeting criteria for loans eligible to be purchased by government-sponsored agencies. In particular, borrowers with credit issues or low down payments are frozen out of Federal Housing Administration loan programs because mortgage lending limits ($271,050 in 2016) eliminate them from some major housing markets.
Thus far Fitch has only issued one ‘AAA’ structured financing rating to a single transaction COLT 2016-3 (the deal was also rated ‘AAA’ by bond rating agency DBRS).
Fitch states it plans to reserve that grade only for non-prime RMBS standards that meet broader standards of investor protection beyond credit enhancement.
Among the hurdles Fitch would place is a third-party diligence review of the entire portfolio of loans; consistent operational review and due diligence results; credit standards that well exceed legacy subprime deals in the form of weighted average credit scores (above 660) and combined loan-to-value ratios below 80% - as well as lower levels (below 30%) of non-standard income documentation like bank statements.
For the structure of a bond portfolio itself, Fitch would require a principal lockout of subordinate and mezzanine classes until senior investment-grade notes are paid on full.