Embattled mortgage servicer Ocwen Financial faces up to $26 billion in damage claims by mortgage bondholders and a greater risk of being fired as a mortgage servicer on thousands of small, private-label securitization trusts.

It’s also taking heat from its own secured creditors for selling assets to overhaul its business.

The Atlanta servicer said Feb. 27 that it had been terminated as a servicer on two deals, representing $264 million in unpaid principal. Ocwen described the termination as "immaterial" in a press release.

But analysts expect much more fallout ahead. 

Wells Fargo, the trustee on the two deals, put a vote to investors in October on whether to terminate Ocwen as a servicer. The termination was triggered when Moody's Investors Service downgraded Ocwen's servicer ratings after New York's top banking regulator found the company had backdated foreclosure letters.

"We regret the decision made by this particular group of investors who have been critical of Ocwen's superior loan-modification results, but are pleased that in the majority of the affected securities, investors are keeping Ocwen as their servicer," Ron Faris, Ocwen's president and CEO, said in the release.

The downgrade triggered an event of default in another eight deals, but investors in those deals opted to retain Ocwen as the servicer.

Kevin Barker, an analyst at Compass Point Research & Trading, said there is an increased risk that other trustees "looking to protect their self-interests" could potentially terminate Ocwen. It is a servicer on 4,000 private-label mortgage deals.

Moody’s downgraded Ocwen’s servicer rating a second time, in January; analysts at Barclays said in a research note that this could trigger an event of default for several more deals, which could go through a similar process.

On Feb. 24 the Houston law firm Gibbs & Bruns, which represents investors in private-label trusts, sent a letter to Wells Fargo accusing Ocwen of major servicing violations with claims of $26 billion in damages to investors, Barker wrote in a research note Friday.

The letter accused Ocwen of conflicts of interests in its use of affiliated vendors, imprudent modification practices and a failure to account for principal and interest payments to the trusts. Ocwen also failed to comply with applicable servicing laws and regulations and recouped servicing advances even while modifying loans in violation of trust agreements, the letter stated.

Mortgage bondholders have accused Ocwen of poor recordkeeping and trust performance, and of using trust assets to resolve investigations into Ocwen's servicing practices.

A Gibbs & Bruns study of more than 2,000 securitization trusts created from 2004 to 2008 found that those serviced by Ocwen performed significantly worse than trusts services by others, and that the Ocwen-serviced trusts returned roughly 1% less in cash every year to investors, Barker wrote in a research note Friday.

That 1% difference amounts to billions of dollars, and the law firm estimates that had the trusts been serviced by another servicer, investors would have received roughly $26 billion more than current returns, Barker said.

The potential for massive litigation and continued regulatory problems means "the outlook for [Ocwen] returning to an adequate servicing profit margin is grim," Barker wrote.

Gibbs & Bruns is the law firm that negotiated an $8.5 billion settlement in 2011 with Bank of America on behalf of a group of large investors.

Hedge fund Blue Mountain Capital Management is seeking to have Ocwen terminated as the servicer on another kind of deal: securitizations of the receivables for the funds that Ocwen advances to mortgage bondholders when borrowers miss payments. Blue Mountain, which has disclosed a short position in Ocwen’s stock, delivered a second notice of default on two servicer advance receivable securitizations. In the Feb. 27 letter, it said that the increased risk of loss stemming from Moody’s downgrade and other events of default provides grounds to increase in the interest rate on the notes by 3%.

Ocwen’s own creditors could also complicate the company’s plans to overhaul its business.

In January 2013, the company obtained a $1.3 billion senior secured term loan. This loan requires a waiver from term loan holders if Ocwen sells more than $100 million of assets. Compass believes that Ocwen is close to tripping this threshold after agreeing to sell $9.8 billion in mortgage servicing rights to Nationstar Mortgage. Compass expects these creditors to require an amendment whereby they would receive all or some portion of the cash proceeds from the asset sales along with some other concessions.

However, Compass thinks that if Ocwen were to sell its entire portfolio of rights to service agency loans, it could generate enough cash to pay off the term loan.

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