Archive for January, 2010
Wall Street is marketing derivatives last seen before credit markets froze in 2007, as the record bond rally prompts investors to take more risks to boost returns.
Bank of America Corp. and Morgan Stanley are encouraging clients to buy swaps that pay higher yields for speculating on the extent of losses in corporate defaults. Trading in credit- default swap indexes rose in the fourth quarter for the first time since 2008, according to Depository Trust & Clearing Corp. data. Federal Reserve data show leverage, or borrowed money, is rising in capital markets.
With the Obama administration stumbling to modify large numbers of troubled mortgages, a little-known Pennsylvania program designed to assist struggling homeowners has been attracting increasing attention.
Pennsylvania's program is geared toward providing short-term aid to borrowers suffering from temporary hardship such as a job loss. It helps homeowners meet the terms of their existing mortgage with separate, below-market rate loans. The federal program, by contrast, aims primarily to provide long-term assistance to borrowers by modifying mortgages to make the payments more affordable.
HousingWire's cover story for February is on Strategic Default, so it's nice to be ahead of the curve…especially considering the balance of research versus a profile of an actual strategic defaulter, which we offer.
And while there are plenty of question marks in this piece, don't be discouraged, as the research side is fairly represented:
The New York Times has run a couple of articles in recent weeks about whether it makes sense to walk away from a mortgage that is bigger than the house is now worth. In a recent paper cited in an article on Sunday, “Underwater, but Will They Leave the Pool?” a University of Arizona law professor, Brent White, explained how the vast majority of underwater homeowners continue to make mortgage payments even if it might make more financial sense for them to strategically default and walk away.
The CEO of the beleaguered mortgage giant Freddie Mac defended its record Tuesday against voices rising against it in Washington.
U.S. Rep. Barney Frank, D-Mass, has suggested the possible scrapping of Freddie Mac and Fannie Mae, both of which have been under government control since 2008.
At a Detroit Economic Club luncheon in Southfield, Freddie Mac CEO Charles "Ed" Haldeman said he understands the frustration surrounding America's housing meltdown.
"I totally get it," he said.
The former British Prime Minster may have landed a huge speaking deal at a hedge fund, reportedly worth $3,250 a minute, according to one publication; to the chagrin of the political party he once led. It is only part of what is becoming windfall earnings in the financial sector since Blair left public office:
"Tony Blair is to give speeches to a hedge fund that made millions betting on the collapse of British banks.
The former prime minister will be paid hundreds of thousands of pounds by Lansdowne Partners, one of London's biggest, yet lowest-profile funds.
The Mayfair-based company reputedly made £100m betting on the demise of Northern Rock and £12m in a matter of days exploiting a dramatic fall in Barclays shares…."
It pays to be popular:
[Update 1: Allonhill releases more info on updated due diligence platform]
Much is being made about creating a new private-label residential mortgage backed securitization (RMBS) market.
And why not? It's great for financing, it will help balance alarming FHA dominance, as serve as a foil to the highly anticipated covered bond market (just as soon as we get some legislation). Yes, it looks to be a perfect synergy, a trinity of three mortgage-financing options.
And if the press is to be believed, it is right around the corner.
Next week the American Securitization Forum is hosting its event in Washington. And certainly supporting arguments for a new RMBS platform (and then another, and another) by Q210 will be made.
After all RMBS is hopping abroad and demand is at a two-year high for a jumbo deal.
But let's be clear, these securitizations will show little resemblance to the securitizations that first got us into this mess.
And so, for all we know, investors are chomping at the bit. But are they really? No doubt this will take center stage at the ASF's coffee breaks and cocktail hours.
For now, let's put aside some nagging issues, even though it is a more immediate topic — such as who's going to insure this new RMBS now that monolines are largely out of the space. Or how will we reinstate eroded confidence toward the credit rating agencies. While structural issues, these do not present any insurmountable challenges. For example, the National Association of Insurance Commissioners is revising regulatory risk-based capital requirements, allowing lower capital reserves against already impaired bonds.
Sue Allon of risk manger Allonhill is honest when she says she now believes the first RMBS may not be as red hot as we all hope. She's launching a new product at the ASF, which is under wraps until Thursday, but I can give you a brief, exclusive idea of what this will look like in terms of what the new RMBS investor is going to expect.
I've coined it Due Diligence 2.0.
Allon, and potentially others, are busy creating a more transparent market, for an investor base that is likely to be "all belts, suspenders and safety pins," she says, when it comes to the very exact decision-making they are expected to employ in such "a cautious market."
I promised not to release any proprietary information on the product, but I will say it is exactly the sort of thing the market needs. To put it basely: it will be Allonhill's name on the line if they call something wrong.
Is this the new formula for success?
Transparency + Accountability = Investor Confidence.
“They want evidence of any errors and they want to see solutions enacted and reported," Allon said. "We want to give investors full disclosure, in accordance with what the rating agencies are requiring.”
So let's all do a better job the second time around? Well, we have to. The demand may be lukewarm, but that can and will change. Meanwhile, not all mortgages are GSE. Stockpiles of prime paper are growing: good credit scores, stable prepay rates, low LTVs.
This collateral won't sit unwrapped forever.
The temptation to do something is proving too great. And private-market solutions are frankly proving to be the best solutions out there.
We are just waiting for someone to cast the first stone.
Pass-through investors are sitting on the edge of their chairs wondering how aggressively the GSEs are going to buy delinquent loans out of portfolio. Along with the potential for spread widening when the Fed retires its MBS purchase program, this is the main relative value consideration for agency MBS investors.
Before we look for signs of buyout activity, let me bring everyone up-to-date on the questions. First, fundamentals: a critical determinant of pass-through investment performance is prepayments (which are slightly less predictable than interest rates!), and credit events like foreclosure, modification and buyout have become, in this environment, significant drivers of prepayments.
Until loan modification efforts moved to center stage at the GSEs, investor apprehensions about credit prepayments were largely focused on GNMA pass-throughs, where servicer loan buyouts are the source of significant prepayment volatility (read: prepayment surges). GNMA servicers buy seriously delinquent loans out of pools across the coupon spectrum, but the practice is destructive when it occurs in pools carried at a premium to par. I discussed this practice in an earlier post.
Last year, as modification efforts picked up across the GSE pass-through universe and HAMP came on line, buyout worries shifted to Fannie and Freddie pass-throughs. I walked through the issues after Christmas.
In the meantime, the cost of advancing on delinquent loans is high – J.P. Morgan analysts estimate it costs Fannie and Freddie about $15 billion a year to advance P&I on loans currently seriously delinquent. Given the cost and the change in accounting treatment, many MBS market analysts assumed the GSE's would move in the new year to buy loans out of pools as aggressively as possible subject to two hurdles: how to finance the purchases and portfolio limits set by Congress and expected to force the GSE's to shed 10% of year-end 2009 holdings by year-end 2010.
Both questions were largely resolved – in my opinion and that of working MBS analysts – when the Treasury announced Christmas Eve that they were lifting the caps on capital support for the GSEs and jiggering the calculation of portfolio limits to give them more headroom to buy in the delinquent loans. The announcement was a morale booster for debt investors – clearing the way for the GSEs to finance bulk buyouts with debt issues – and removing pressure for portfolio caps meant there was ample room to buy the loans.
With those issues resolved, most analysts predicted that the enterprises would move quickly in 2010 to begin buying loans out of pools, sharply but briefly boosting prepayments, particularly in higher coupons (6s and up).
Where Is the Surge, Then?
Now it's the end of January, and I'm wondering, where is that surge? Loan buyouts are back office operations, generally conducted far from the capital markets, over the automated systems that link GSEs and their servicers, but the debt issues that would fund them are very visible. The enterprises have a nice stash of cash on hand – tens of billions of dollars if my memory serves me – so they can proceed a ways without bringing debt to market. But the give-away indicator mass buyouts were underway would be debt issuance.
So far as I could make out from the daily chatter from agency debt analysts, there's been nothing surprising about issuance volume yet this month. And, I've asked a couple of agency debt analysts about signs of activity. They shrugged the question off, telling me to go home and look at prepayments, forgetting perhaps that news of prepayments would lag the buyouts by several weeks.
So, imagine my pleasure when I opened the "pdf" from J.P. Morgan Securities' Fixed Income Strategy group this week and read, "Buyout-Watch: keeping an eye on debt issuance."
I am not alone in thinking prepayments are not the clue!
Although JPM analysts admit that it's possible the GSEs could issue debt after pool factors are announced or fund buyouts by selling dollar rolls, but before settlement date, they recommend watching discount note issuance, because spreads in the sector are tight, "it's a very liquid market market ($100 billion could be issued in a very short period of time), and it matches the short duration nature of a delinquent, high coupon loan." The GSEs, say JPM, could combine issuance of discount notes with that of longer-term paper such as 2-year or 5-year debt.
Talking to their colleagues, agency debt strategists, the JPM structured product team notes that so far "there hasn't been much of a pickup," except for a "little bump up" last month. However, "So far in January, we have seen an interesting divergence between Fannie and Freddie net debt issuance, however: while Fannie net debt outstanding shrank by $20 billion thus far, Freddie's has grown by $20 billion."
In their report, the JPM analysts put that last point in bolded italics! They say it's too early to draw strong conclusions, but the divergence in funding could imply Freddie is buyout out more efficiently than Fannie at present. That doesn't mean Freddie speeds will be faster than Fannie's – JPM points out that Fannie's overall delinquency rate is about 40% higher than Freddie's.
It does mean debt issuance is a "forward-looking buyout signal" well worth watching and JPM is going to be watching it.
Me too.
NOTE: Linda Lowell writes a regular column, called Kitchen Sink, for HousingWire magazine.
Editor’s note: Linda Lowell is a 20-year-plus veteran of MBS and ABS research at a handful of Wall Street firms. She is currently principal of OffStreet Research LLC.
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