Moody's Investors Service is seeking comments from market participants on proposed adjustments to its monitoring approach used in evaluating tail risk in pro-rata pay residential mortgage-backed securities that do not have compensating support mechanisms.
Moody’s defines tail risk as “the risk of a disproportionately large loss, based on current balance of the pool, on the underlying pool at the end of a transaction's term when few loans remain in the pool.”
The proposed move could result in downgrades for about 1,200 RMBS, according to the company. The company will be accepting comments on the proposal until May 20.
“The change in approach would primarily affect ratings of the prime jumbo, alt-A, FHA/VA and scratch-and-dent sectors, which typically have shifting interest structures without credit enhancement floors or non-declining reserve funds,” Moody’s said in a press release.
The ratings agency is concerned that that although the credit enhancement for these deals, at this stage, is “high in percentage terms,” it “may be very low in dollar terms."
“With less credit enhancement, these bonds have greater vulnerability to pool losses as the pool pays down," said associate managing director Debash Chatterjee, head of the U.S. RMBS surveillance team at Moody's, in a press release.
To address this, “Moody's proposed approach uses a scenario analysis applying stresses to the rating agency's projections of the pool's loss and delaying the timing of defaults.”