Some changes to the Federal Housing Authority program are now being considered which, if passed, could affect Ginnie Mae securities down the road, JPMorgan Securities analysts said in a recent report. GNMA market share has steadily dropped over the past 15 years, with FHA borrowers attempting to move out of the program into conventional loans and Jumbos because of the comparatively lower cost. Particularly, the FHA borrowers are forced to pay a 150 basis point up-front insurance premium as well as a 50 basis point annual insurance premium.
Also, aside from the program being relatively high cost, the FHA program has lagged considerably in many of the product innovations found in the prime and subprime sectors: These innovations include IO loans, flexibility in down payments, 40-year mortgages, and MTA, which offers the payment flexibility and low initial payment. The borrower defection rate from the FHA program and into the subprime and prime markets has risen recently, as higher home prices have given borrowers the chance to qualify for these other programs. The increase in home prices has also made it much harder for borrowers to take out an FHA loan since loan limit caps make the FHA loans often too small for many geographical markets, such as California, JPMorgan analysts said.
The Ginnie bill
There is now a House bill that is scheduled to go to the floor on June 20, expanding the FHA program in several ways. First of all, it would boost the loan limit in high-cost areas. For example, some parts of California could potentially see over $500,000 FHA loan limits. In San Francisco, the limit could be as high as $715,000. The bill would also allow the FHA to offer flexibility in down payments based on the credit profile of the borrower (risk-based pricing), with higher credit borrowers needing little to possibly no down payment and lower insurance premiums.
Analysts said that the impact of these changes, if passed, could help boost GNMA issuance, and slow or reverse the dip in its market share. The new crop of GNMAs would have higher loan balances, thus making them more callable as well as slightly increasing the credit profile of these borrowers (as the higher credit borrowers usually choose to stay in the program due to its lower costs). The difference in credit versus conventionals has historically caused GNMAs to prepay faster across the board, relative to FNMAs with the buyouts and credit curing.
If the FHA program's marginal borrower is of slightly higher credit compared to the past, it may make GNMAs prepay slightly more in line with conventionals, which is a negative for GNMA/FNMA swaps, JPMorgan analysts said. GNMAs have cheapened about a fourth to a half point from their recent highs, versus FNMAs at the start of 2006, and this development could put additional pressure on the sector.
In the final analysis, JPMorgan analysts said that the devil is in the details, and they are looking for more details on the possible changes to the program in the coming months.
In other Ginnie Mae news, after an almost two-year delay, the agency has been granted approval to start its new excess servicing securitization program - the securities issued under which will be dubbed "XMBS" for excess servicing mortgage-backed security - effective July 5.
In a recent report, analysts at UBS acknowledged that the potential size of the program is quite small relative to the IO trust market. However, they still believe it presents a significant opportunity for GNMA servicers to reduce their exposure to GNMA excess servicing. Moreover, the new program somewhat levels the playing field for the company as it provides another key feature to the GNMA securitization program, a feature that has already been part of the Fannie Mae and Freddie Mac securitization programs for quite some time.
To be more specific, the purpose of the XMBS program is to give Ginnie Mae servicers the ability to reduce their exposure to mortgage servicing rights (MSRs) by securitizing any servicing strip above the minimum required, which is equivalent to the guaranty fee and the minimum servicing fee combined. It is important to note, however, that only GNMA II MBSs are eligible (GNMA I pools were excluded as they have no excess servicing). According to the UBS report, the average amount of excess servicing available for securitization is roughly 25 basis points for all GNMA II MBS regardless of the issuance date.
Key features of the XMBS program are that, just like in any Ginnie Mae security, the timely payment of all XMBS cash flows will be guaranteed by the full faith of the U.S. Government. Also, in order to make this program feasible for the majority of GNMA servicers, Ginnie Mae will probably charge an up-front guaranty fee of no more than a few ticks instead of a running guaranty fee.
As previously mentioned, compared to the IO trust market, which Freddie Mac and Fannie Mae play a huge role in, the potential size for the XMBS program is very small. The typical size of the Fannie or Freddie fixed rate IO/PO strip deals is $1.5 billion to $3 billion. By contrast, if, say, 20% of GNMA II servicers were to participate in the XMBS program, this would only likely generate $1.103 billion, UBS analysts said. Still, it is expected that Washington Mutual, Countrywide, and GMAC's participation will be meaningful to Ginnie Mae and the success of its program.
According to Ginnie Mae, there are no imminent XMBS deals as of yet. But the UBS report said that the dearth of comments regarding the new program is due to a lack of controversy surrounding the XMBS program, and not a lack of interest.
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