It stands to reason that with delinquencies falling and home values firming up that mortgage servicing rights are poised for a handsome increase in value. But judging from the latest earnings statements from the nation’s megabanks, nothing could be farther from the truth.

According to an analysis conducted by National Mortgage News, the nation’s largest residential servicers — which just so happen to be megabanks — are marking down their MSRs to near fire sale prices.

Bank of America and Citigroup, two firms that have been whittling down their presence in mortgage banking the past two years, each cut the asset value of this volatile receivable by 53% year-over-year.

The declines in asset value aren’t tied to falling in servicing balances either. The only top five servicer with a somewhat sizeable reduction in MSRs is BofA at 16%, $1.69 trillion compared to $2 trillion a year earlier.

What servicing investors and analysts find so ironic about these writedowns is that many of these firms have been adding stellar quality product to their portfolios the past three years —receivables that are so pristine in nature that the chances of default are almost nil.

One analyst, commenting on Jumbo loans that went into Redwood Trust MBS the past two years, told me this startling fact: Only one of the underlying loans in the bonds has gone into arrears, but it turned out to be a temporary late payment that was quickly rectified by the borrower. In other words, the entire portfolio is performing.

Although the delinquency rate on jumbos can differ widely from conventional and FHA product, the message is clear: tight underwriting standards forced upon borrowers have created great assets. All this should make MSR quality of the past few years golden, allowing servicers of all sizes to finally “mark up” the asset.

But if only it were that simple. Servicing analysts and advisors note that loan buybacks and the recent attorney general settlement with servicers have forced MSR holders to be ultra conservative when it comes to valuations. Then again, there is one other factor in play here: declining interest rates.

Thanks to the financial uncertainty in Europe and the flight to quality of U.S. Treasuries — in particular the benchmark 10-year note — rates have once again headed south the past two months, establishing new record lows. Prepayment speeds are once again wreaking havoc on servicing values.

“It’s a prepayment thing,” said George Christo, executive vice president for The Prestwick Mortgage Group, Alexandria, Va. “There’s a renewed fear of prepayment risk having an effect on servicing values.”

(Christo and others note the other reason—well known—is the Basel III cap on how much MSRs can be counted toward core capital. But the Basel cap has been known for years and is slowing being adopted by all concerned.)

Mark Garland, president of MountainView Servicing Group, Denver, concurs with Christo on falling rates and MSRs. “I think a vast majority of what we’ve been seeing is interest rate driven,” said Garland. “Institutions are basically pulling back and taking a more conservative view.”

But there is one silver lining to the rate drop: prepayment speeds are nowhere as fast as they were 10 years ago when mortgage servicers faced the mother of all refi booms. In 2003 the industry wrote a record $4 trillion in new loans, a number current industry originators can only dream about.

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