There’s been plenty of talk about the potential benefits of hiring a third party to monitor the quality of collateral in residential mortgage-backed securities, but so far, no action.
Even Redwood Trust, an early advocate for the role of a so-called transaction manager, has yet to hire on for any of its deals.
A report published this week by Fitch Ratings helps explain why: the credit quality of loans being securitized is still so high, and the economic environment so benign, that the benefit of having a transaction manager would not outweigh the cost.
Fitch thinks it’s far more likely that the inclusion of a transaction manager would benefit investors in “higher loan default scenarios.”
The transaction manager’s main value is in minimizing losses on distressed loans, according to Fitch. This party would be responsible for coordinating with all other transaction parties, including servicers, trustees, custodians, specialty vendors, and investors. It would have the ability to replace underperforming servicers, which would heighten servicer accountability and mitigate losses on distressed loans.
Other responsibilities would include servicer and vendor oversight, investor reporting, enforcement of transaction governing agreements, resolution of breaches of representations and warranties, and credit risk management.
As such, Fitch believes that a transaction manager will have a greater impact in RMBS transactions that experience higher loan defaults, either due to riskier loan attributes or stressful economic environments. The rating agency thinks that having someone in this role could warrant lower credit enhancement requirements.
So far however, most RMBS issued are backed almost exclusively by loans that are not only safe but also meet that the criteria for a legal safe harbor from new ability-to-repay rules. Redwood’s latest transaction, Sequoia Mortgage Trust 2015-3, which launched this week, has just 26 loans, representing 6% of the collateral, that are not Qualified Mortgages. That’s the highest level of any of its deals to date.
If and when Redwood or anyone else puts together an RMBS with a transaction manager, Fitch will be looking closely at the compensation agreement to ensure that the fee structure properly aligns the incentives of this party with that of investors throughout the capital structure.
"The compensation arrangement might include both initial and ongoing fees designed to effectively motivate the TM in a broad range of mortgage pool default scenarios," the report states.