March 28, 2013
Banks are losing their appetite for servicing the mortgages they underwrite. Although the two businesses once seemed complimentary, new capital requirements make it much less attractive for lenders to keep servicing rights on their books. Throw in the stringent requirements imposed by the National Mortgage Settlement, and servicing is suddenly much a less attractive business.
There is no shortage of players willing to replace banks, but these relative newcomers don’t have the same access to cheap funding as depositary institutions. Servicers don’t just collect interest and principal payments and distribute them to holders of mortgage-backed securities; they also advance funds to investors when borrowers miss payments.These advances are eventually reimbursed, but it can take months, and in some cases years.
So what you have is a capital-intensive business — advancing payments — with a reliable stream of revenue: the perfect recipe for securitization.
Investors are taking a shine to this once-obscure asset class, and the structuring of deals is becoming more efficient. Already this year, issuance of securities backed by servicing advance receivables stands at $1.9 billion through March.
Joseph O’Doherty, managing director in the securitized products group at Barclays, expects issuance of servicing advance receivables-backed securities grow to $5 billion this year, surpassing the $3.17 billion issued in 2012, according to ASR figures.
There’s one caveat to this growth however: It is largely limited to new acquisitions of mortgage servicing portfolios. On a going-forward basis, most rated RMBS deals are likely to be prime deals, with fewer delinquencies and less of a need for regular advances.
“Over the next couple of years we expect new RMBS issuance to be predominantly prime securitizations. Compared to pre-crisis issuance, which included subprime and Alt-A collateral, issuance volumes will most likely be lower and of a higher credit quality; that should result in lower levels of advancing by servicers” said Sagar Kongettira, a senior vice president at Dominion Bond Rating Service (DBRS).
Banks, Deconsolidation and MSRs
In February 2012, 49 state attorneys general and the federal government announced the $25 billlion National Mortgage Settlement with the five largest U.S. mortgage servicers: Ally/GMAC, Bank of America, Citi, JP Morgan Chase and Wells Fargo. The agreement resolves allegations that servicers forged documents used to process foreclosures.
The stringent new servicing standards imposed by the settlement, not to mention the financial penalites, have contributed to the sell-off of mortgage servicing rights by banks.
New capital ratio guidelines proposed under Basel III are also making mortgage servicing less attractive for banks.
Another factor driving deconsolidation is the fact that banks weren’t really set up for servicing non-performing mortgages. As delinquencies in residential mortgages rose, banks have been looking to get rid of the operational risk of servicing large portfolios of delinquent mortgages.
“You have significantly more advance-related collateral available that needs financing because now you have homeowners that are just trying to make ends meet and may not be able to make their monthly mortgage payments and are having problems keeping up with their property taxes and insurance in escrow—that creates a growing advancing obligation on behalf of the servicer that needs to be met,” said Rudene Haynes, a partner at Hunton & Williams LLP.
Thomas Hiner, a partner in the same law firm, said that there are numerous companies that are getting into the business and are acquiring servicing from banks. “There are still a lot of acquisitions happening on the private-label side and there will continue to be a need for advance financing to support these acquisitions and the ongoing servicing performance post-acquisition,” he said.
U.S. banks are expected to unload up to $2 trillion in mortgage servicing rights, according to the American Banker. Among the big banks, only Wells and U.S. Bank are expanding their portfolios, while the others are shrinking them. Wells reported $1. 9 trillion in servicing assets as of the third quarter of 2012, accounting for approximately 19% of the total market. Meanwhile, U.S. Bank grew its portfolio by 2.3% on a quarterly basis and 14.6% on a yearly basis. But in March, chief financial officer Timothy Sloan told investors that the bank may “test that market” for selling servicing rights in a bid to reduce the size of its portfolio.
Ocwen and Nationstar, two of the biggest players in the non-bank servicing space, have snapped up mortgage servicing rights on loans that came up for bid over the past 15 months.
Most recently, in February Ocwen completed the acquisition of certain assets of Residential Capital LLC; the portfolio includes the unpaid principal balance of $107.3 billion of mortgage servicing rights on private-label, Freddie Mac and Ginnie Mae loans; $42.1 billion of master servicing agreements, and $25.9 billion of subservicing contracts.