The mortgage and housing industry's wish list for revisions to the latest Basel proposal includes requests for change to the rule set's loan-to-value ratio and rental-property distinctions.
Part of the proposal calls for risk weights to "rise as high as 110% for loans with LTVs above 100%" when "repayment depends on rental income," according to Pennymac's June Policy Pulse report, which builds on its earlier Basel commentary.
That may be a concern for non-QM loans, which represent a small but fast-growing market segment. The debt-service coverage ratio loans segment in particular is reliant on rental income and can be credit-risk sensitive, according to NMN columnist and analyst Chris Whalen.
The non-QM market does typically adjust for high-LTV risk, but it has been competitive in ways that could continue to push boundaries.
As of May 31, issuance of non-QM securities totaled nearly $44.69 billion and was up around 67.6% from the same period a year earlier, according to David Akre, principal at Whole Loan Capital. (Akre's data may differ from other figures.)
While this represents a slowdown from year-to-year growth rates above 70% in earlier periods, it suggests there's still a strong securitized market for non QM that lenders have relied on more as rate-driven leads have remained limited.
This may account for some interest in tweaking the rental property and LTV rules in letters submitted during the comment period that ended last Thursday.
Investor loan recommendations
Axos Bank Chief Risk Officer John Tolla called for more nuance around rules for residential investor property loans that are "cash-flow dependent," noting that their risk weightings are 5-15 percentage points higher than non-CF equivalents.
While acknowledging the risk profile for these differs from owner-occupied housing, Tolla said, "the current binary classification does not adequately account for the wide spectrum of investor property loans, many of which are underwritten to conservative standards."
Tolla suggested exempting loans from the cash-flow dependent designation based on minimum standards for DSCRs, recourse, maximum loan-to-value ratios and "documentation of borrower income sufficient to service the debt independent of property cash flows."
He recommended a 1.25-times DSCR standard based on documented income and that LTVs be at or lower than 75%.
Alternatively, he suggested setting up a third interim category between loans that are cash-flow dependent and those that aren't to account for those with characteristics somewhere in between.
"The current binary classification risks over-penalizing a significant volume of conservatively underwritten investor property loans, which in turn could discourage banks from originating these credits," Tolla wrote, noting that this could push more risk into the nondepository market.
Downsides to low downpayment distinctions
The National Association of Home Builders noted that while loan-to-value ratio nuances in the proposal help better align bank capital with risk, they could be a hurdle for consumers entering the housing market.
"The proposal may disadvantage creditworthy borrowers with limited funds for a large down payment because banks are likely to charge more for high-LTV loans," Jessica Lynch, vice president of housing finance at the NAHB, wrote in a comment letter.
Lynch also showed concern that the LTV distinctions could discourage more moderate-sized institutions from funding mortgages with lower downpayments.
"Complexity of calculating LTVs may discourage smaller banking institutions from voluntarily adopting the proposal unless an alternative calculation is provided," she wrote.
Some members and groups within the industry also have called for the proposal to go further when it comes to warehouse lending and servicing relief.
