Some in the “there are no bad bonds, there are only bad prices” club (or perhaps today, the “there are no bonds club”) continue to espouse a love of nonagency RMBS — but for how long?
Although some fixed-income people in the business objected when I made gambling analogies in reference to nonagency RMBS between 2005 and 2007, I think time has proven that I am right saying about any investment and particularly those bonds — you pay your money and you take your chances. Of course, you can pay way less money these days. The “discount” and the upside may not be as good as it was, but some believe there are bonds in this category that still have room to run.
As Paul Jablansky, managing director and senior nonagency MBS and consumer ABS strategist, RBS Global Banking and Markets, noted during a recent American Securitization Forum panel discussion: There have been technicals in the market that could be considered positive for these bonds. He said if you look at their relative returns on the secondary market recently, they have looked pretty good.
But “they’re positive because the amount of outstandings has shrunk considerably.”
RBS estimated there has been about $48 billion of issuance this year, and out of that $48 billion approximately $44 billion of that was in resecuritized real estate mortgage investment conduit form, or “issuance that didn’t really reflect the origination of new mortgages.”
Even within the balance of somewhat less than $4 billion that wasn’t re-REMICs, some of that $4 billion was securitization of seasoned loans from the secondary market and some involved securitization of nonperforming loans, he said.
Outstandings are down by about $1 trillion from the market’s peak in 2007 and according to Jablansky about $20 billion pays off without being replaced monthly.
So supply may be continuing to shrink and prices could still rise. But it can’t go on forever and while the framework for what’s next is being built, it’s still not fully formed. As Jablansky and the ASF panel discussed, it looks like there are a lot of challenges for the market in the coming year: regulatory changes, the so-called foreclosure crisis issues, servicer advances and, as he put it, “tight yield levels on the tightest part of the market.”
So where are the opportunities today? A couple real estate investment trust executives that play in the space indicated at the National Association of REITs’ annual conference recently that they are not investing in subprime anymore but they are investing in jumbo and alternative-A RMBS.
Returns haven’t been as high as they are in subprime, prime has “a lot more stability,” Jabalansky said of the alt-A and prime space. Credit is still deteriorating but at a slower pace, he said.
One way to play in this space is through REITs, which have been said to have strategic advantages in today’s market that some think might be increasing, as they don’t face the kind of regulation and capital requirements banks that compete with them do. Investors’ choices in this area when it comes to REITs are somewhat limited in the scheme of things. As noted by NAREIT, a mortgage REIT was the first player in the space 50 years ago. But they by no means dominate the industry today. This can make evaluating investment possibilities in this area relatively manageable.
Among arguments to be made for them, an expected drop in the conforming loan limit could make new nonagency mortgages more compelling, according to executives at REIT Invesco Mortgage Capital.
“We think the opportunities in the residential loan space are just going to get bigger,” Don Ramon, chief financial officer, told attendees at the National Association of Real Estate Investment Trust’s annual meeting in New York. He said Wall Street is getting more interested in nonconforming mortgages again.
The drop in the loan limit could add impetus to interest in securitizing in that space, but whether that interest would be enough to make nonagency residential mortgage securitization possible while new regulations surrounding the process are still uncertain is unknown, CEO Rich King told ASR sister publication National Mortgage News. Dodd-Frank regulations surrounding residential mortgage securitization aren’t expected to be fully in effect until 2012, but King said he thinks the nonagency market could make a comeback before that time.
REIT Chimera Investment Corp., originally formed to securitize nonagency product in 2007 in response to what president and CEO Matthew Lambiase said were the beginnings of improved loan underwriting quality at that time, told attendees at the NAREIT meeting it would eventually like to return to the original goal should conditions reach the point where the nonagency securitization market could make a comeback.
But Lambiase said, “I am not banking on any kind of recovery” and indicated the one effort toward new securitization seen in the market recently was not easily done. The REIT that did that deal “shucked a lot of oysters to get those pearls,” he said.