New Residential Investment Corp. may soon join the ranks of real estate investment trusts that regularly issue residential mortgage bonds.
It’s better known for other kinds of mortgage-related investments, primarily for its rapidly growing portfolio of “excess” mortgage servicing rights, which are the rights to the margin between what it costs to collect and manage mortgage payments and the fees that servicers actually earn.
New Residential has also been accumulating a portfolio of servicing advance receivables, or the repayment rights to money that servicers advance to mortgage bondholders when loans used as collateral become delinquent.
The $1.4 billion acquisition of the assets of Home Loan Servicing Solutions from Ocwen in April added significantly to both portfolios.
But New Residential also has a robust pipeline of rights to exercise “cleanup calls” on older, private-label mortgage securitizations when at least 90% of the collateral has been paid down.
These transactions are often uneconomical to service because the administrative costs are too high in relation to the servicing fees earned on the remaining collateral. Breaking them up allows New Residential to profit in two ways. First, it purchases the loans collateralizing the bonds, at par, plus expenses. The performing loans can be sold, at a premium, either to a securitization trust or as whole loans. The nonperforming loans stay on New Residential’s books, at fair market value, until they can be worked out or sold
Each deal called may release a relatively small amount of collateral, but by calling a number of deals the REIT can pool enough collateral for a resecuritization.
The second way that New Residential profits is by purchasing the outstanding bonds issued by a securitization trust for which it owns the call rights, at a discount to face value. As owner of the bonds, it gets paid back at par when the bonds are called.
In the second quarter, the company recalled 18 seasoned non-agency mortgage deals with approximately $369 million in unpaid principal balance. It then issued a $334 million securitization, called New Residential Mortgage Loan Trust 2015-1.
In total, New Residential owns the call rights on private label mortgages with an unpaid principal balance of some $200 billion.
“We believe each and every one of these deals will get called at some point in the near future,” chief executive Michael Nierenberg said during the company’s second quarter earnings conference call Thursday.
He expects that, when called, the balance of the deals will be around $100 billion.
“Since we’ve begun this strategy, we’ve been averaging approximately two to three points of P&L per deal,” Nierenberg said. “That’s $2 billion of optionality.”
Just $31 billion of call rights held by New Residential are eligible to be exercised, and Nierenberg said New Residential has sent out call notices for some eight or 10 deals.
Another $4 billion become callable later this year, followed by $7 billion in 2016, $10 billion in 2017, $9 billion each in 2018 and 2019, and the another $28 billion in 2020 or later.
“So I do think it's going to be something that will be more -- you should see the results more in ’16, ’17, and ’18 then I think you will see this year,” the CEO said.
This is a different strategy than some other REITs, such as Two Harbors Investment Corp. and Redwood Trust, which securitize new jumbo loans made to borrowers with pristine credit.
Just because a call option can be exercised does not mean it is in the money. Nierenberg said that a number of factors, including the number of delinquent loans and the amount of funds advanced to mortgage bondholders, affect the economics of calling deals.
New Residential may also hold off on calling a deal until it has acquired the outstanding mortgage bonds.
Nevertheless, Nierenberg said, “our non-agency business will continue to take on a greater role over the next couple of years as more and more of our call options become in the money, as deals pay down, delinquencies decrease, and advance balances come down.”