Rating agencies are talking tough about residential mortgage backed securities (RMBS) again.
This time the fuss isn’t about selling defective loans back to the originators. Instead, raters disagree about the risk of deals with a large number of mortgages on homes in the same state, or even the same city.
At issue is a $440-million residential mortgage backed security (RMBS) by Nomura Corporate Funding. Closed in mid July, the deal is Nomura’s first RMBS since the financial crisis. Its collateral consists entirely of 30-year, fixed-rate loans originated by First Republic Bank, a jumbo lender that is a recurring originator for Redwood Trust’s RMBS and boasts a strong performance history.
Both Kroll Bond Rating Agency and Standard & Poor’s rated the senior tranches of Nomura’s deal triple-A. In an unsolicited comment, Fitch Ratings questioned that coveted grade for a transaction with stark geographic concentration: California is home to 75% of the properties secured by the deal’s underlying mortgages.
What is more, Fitch believes that too many of those home are in overvalued neighborhoods. The agency said that, if it were asked to rate the deal, it would apply a 75% increase to the default frequency assumption for this pool.
This would require a 9%-10% credit enhancement for the senior class to achieve ‘AAA.’ But the deal is actually structured with 7.6% enhancement.
The agency has no problem with the credit quality of the loans, which have a weighted average FICO score of 770 and an average combined-loan-to-value ratio of 65.6%. “While the attributes of the underlying pool are strong, Fitch believes that meaningful risk is introduced with concentrations of loan production,” managing directors Roelof W. Slump and Rui Pereira said in a presale report.
Kroll and S&P feel that the creditworthiness of the borrowers helps offset the risk that falling housing prices in California could weigh on the deal’s performance.
Kroll acknowledges geographic concentration as an important risk factor. In its presale report, the rating agency said that it took this into account in rating the deal, applying a 67% increase to the default frequency assumption for the pool. But analysts feel that the credit quality of the collateral is so high that credit enhancement of 7.6% is sufficient to justify the ‘AAA’ rating.
“A significant portion of the borrowers exhibit high levels of verified assets, and most loans demonstrate prudent debt-to-income ratios, especially given relatively high borrower incomes,” Kroll said in the report.
Kroll also took into account First Republic’s experience as a jumbo mortgage lender and servicer.
“If you look at the performance history of First Republic collateral, it’s one of top performing” originators, Michele Patterson, the primary Kroll analyst on the deal, said in a telephone interview.
“Some of these borrowers have $1 million in reserves. If there are any issues, borrowers can continue to pay the mortgages,” she said.
Glenn Costello, a senior managing director at Kroll, noted that First Republic’s mortgage origination has always been concentrated in California, even during the financial crisis. “We can see how it performed when hit with very severe home price declines,” he said in the same telephone interview.
Another mitigating factor, according to S&P, is that due diligence was performed on 100% of the loans in the pool by a third-party due diligence provider. “The results are consistent with high-quality underwriting,” it said in its presale report.
Unlike some RMBS issued this year, assurances as to the quality of the loans backing this deal are not being disputed. A $616 million RMBS issued by J.P. Morgan in March drew criticism from Moody’s, which said it was too easy for originators, including First Republic, to avoid buying back defective loans. Fitch and Kroll both assigned top ratings to the deal, saying that its additional credit enhancement offset any concerns about the quality of so-called representations and warranties.
Kroll noted in its report that Nomura’s deal has no “sunset provision” releasing First Republic from a requirement to repurchase defective loans after a certain date. Some recent deals with such a provision attracted criticism from rating agencies. Neither Moody’s Investors Service nor DBRS commented on the Nomura deal.
MTA Issues First Storm Surge Cat Bond
New York’s Metropolitan Transportation Authority issued a debut catastrophe bond the final week of July, upsizing the deal to $200 million from $125 million and pricing it at 450 basis points over U.S. Treasury money market fund earnings.
The deal was the first cat bond to have have triggers linked only to storm surge and no other aspect of hurricane-related risks, according to a presale report from S&P, which rated the transaction ‘BB-(sf).’
An MTA spokesman declined to comment.
The expected term is three years. The sole bookrunner is GC Securities, and co-senior manager Goldman, Sachs & Co. Both are joint structuring agents.
The deal will enable the MTA to hedge against the sort of storm surge damage incurred by Hurricane Sandy.
It is backed by a reinsurance agreement between the issuer, MetroCat, and the First Mutual Transportation Assurance (FMTAC), a wholly-owned unit of the MTA established to insure and reinsure the risks faced by the MTA.
As part of the transaction, FMTAC gets three years of per-occurrence reinsurance protection against the storm surge.
If certain surge levels occur during a named storm and therefore trip the triggers pre-set by the transaction, then Metrocat makes a loss payment to FMAT that is 100% of the principal amount. This could translate into bondholders themselves suffering losses.
The risk modeling agent used in the transaction is Risk Management Solutions (RMS). S&P said the deal’s creditworthiness is linked to the modeled probability that there would be a triggering event based on the levels pre-set for zones A and B. The agency said that it adjusted for a higher probability of a trigger event than that anticipated by the RMS model.
“We then assigned the preliminary rating by selecting the next rating category below this adjusted probability of attachment that is greater than or equal to the adjusted default probability from our insurance-linked securities default table,” the agency said.
S&P added that among the risks to bondholders getting their full investment back was the fact that water-level data from older historical events used by RMS may not be as “robust” as that informed by more recent events such as Hurricanes Sandy and Irene. In addition, the agency noted that two of the last three hurricanes to make landfall in the U.S. did so in the Northeast.
On the other hand, S&P listed a number of strengths enjoyed by the deal, such as RMS’s deep experience in the sector and the fact that since 1900 only two hurricanes would have hit the trigger levels defined in the structure. These are Hurricanes Donna (1960), and, of course, Sandy.
EETCs Priced Amid Market Uncertainty
Securitization has always been an attractive form of financing for U.S carriers, both before and after the crisis.
But now international carriers are increasingly tapping this option to fund new aircraft deliveries. In particular, they’ve been going the route of Enhanced Equipment Trust Certificates (EETCs), a structure for securitizing aircraft leases. Activity from abroad and domestically has helped push the year-to-date issuance figure in this asset class to $4 billion, according to a report by Deutsche Bank analysts. At this rate, the sector might approach the $10 billion annual number last hit before 9/11. Indeed, it looks like issuance is not slowing down anytime soon.
“With aircraft deliveries continuing at a record pace from both Airbus and Beoing and many historic sources of aircraft finance either less available (commercial banking) or more expensive (export credit), we expect that capital markets issuance for aircraft transactions to continue growing rapidly in 2H13 and beyond,” the Deutsche analysts said.
They added that EETCs will remain the engine for this activity. “Large airlines with large order books are attractive by the economies of scale of the EETC market, where it easy to finance multiple aircraft in a single transaction rather than the smaller transactions often required in the bank market or even export credit.”
In July British Airways issued its debut EETC: a $927 million, two-tranche issue that will finance six new A320s, two 777-300ERs and six 787-8s.
Citigroup was the lead bookrunner, joined by HSBC, Deutsche, and Morgan Stanley.
The $721.6 million senior tranche Class A certificates, with an expected maturity of June 2024, were rated ‘A’ by Fitch and ‘Baa1’ by Moody’s. The $207.0 million Class B certificates, with an expected maturity of June 2020, were rated ‘BBB’ by Fitch and ‘Ba1’ by Moody’s.
The class A notes priced at 4.625% and the class B notes at 5.625%.
Doric also issued last month, its second time in this market. The Series 2013-1 sold two tranches totaling $630 million to finance four new A380-800 aircraft for lease to Emirates. Moody’s rated the certificates. The $462 million A certificates, with an expected final maturity of June 30, 2023, were rated ‘A3.’ The $168 million B certificates, with an expected final maturity of November 20, 2019, were rated ‘Baa3.’.
The ‘A-’ tranche of the Doric transaction priced to yield 5.25% and the B-tranche priced to yield 6.125%
The issuer first tapped the debt capital markets in June 2012, becoming the first international EETC deal to be filed under a bankruptcy provision similar to Section 1110 of the U.S. Bankruptcy Code, which give creditors full collateral rights and special treatment allowing them them to quickly recover collateral if necessary.
