Prime jumbo mortgage bonds are disappearing. Here’s why

DBRS report shows new issuance falling off a cliff

Recent reports from Standard & Poor’s Global Ratings showed that rate at which new mortgage bonds enter the market is slowing considerably in 2016.

Earlier this month, a report from S&P showed that through the month of October, the year-to-date residential mortgage-backed securities issuance now stands at $28 billion, down from $45 billion during the same time period last year.

But just how dry is the well getting? Incredibly dry, especially if you’re an investor looking for a prime jumbo mortgage bond.

According to a new report from DBRS, prime jumbo mortgage bonds are all but disappearing from the market, despite their sparkling post-crisis performance.

The DBRS report shows that as of September 25, there have been only 8 prime jumbo securitizations issued in 2016.

Compare that to 35 prime jumbo securitizations that were issued in 2015, 28 that were issued 2014, and 31 that were issued 2013.

Depending on the last few months of the year, this year’s prime jumbo issuance could barely top 2012, when only 9 prime jumbo securitizations hit the market.

In total, there have been 114 prime jumbo securitizations issued since 2010, totaling approximately 52,152 loans and $40.5 billion.

According to DBRS, the characteristics of this year’s deals are not significantly different from the prime jumbo securitizations of the recent past.

The deals, which are sometimes referred to as “super prime,” are based on loans that have low loan-to-value and debt-to-income ratios, are fully documented, and are made to high FICO borrowers with robust income and reserves. 

And because of those underwriting conditions, the prime jumbo deals are performing remarkably well, DBRS notes.

According to DBRS’ data, only 23 of the approximately 52,152 loans that make up the 114 prime jumbo securitizations since 2010 have a payment status of more than 60+ days delinquent, which includes including bankruptcy, foreclosure and real estate owned.

That’s a delinquency rate of 0.04%.

Additionally, DBRS notes that there have been only 0.04% losses to date on one transaction.

So why are these loans performing so well?

“Positive loan attributes alone do not explain the excellent performance to date of the super prime transactions,” DBRS analyst Quincy Tang notes in the report.

“Many of the new mortgages were underwritten to an extremely conservative standard, particularly with respect to verification of documents,” Tang continued. “In addition, almost all of these transactions employed third-party due diligence reviews covering credit, compliance and property valuation on 100% of the underlying pool, leaving few exceptions or deficiencies of the securitized loans.”

But despite that strong performance, the prime jumbo mortgage bond market is evaporating.

According to Tang, there are a few reasons for that.

“Securitization issuance has been relatively limited this year because of the market’s large appetite for agency loans – as opposed to prime jumbo loans – as well as many banks’ preference to hold such loans in their portfolios,” Tang said.

Tang said that this year’s “persistently” low interest rates are also squeezing the profit margins for securitizations.

Additionally, Tang said that there have been strong whole loan bids from bank portfolios that prompted lenders to sell whole loans as opposed to executing securitizations.

Tang also notes the “very liquid” agency securitization market, driven by Fannie Mae and Freddie Mac, which encouraged lenders to originate agency mortgages rather than prime jumbo mortgages.

Tang also said that for large banks, strong balance sheets and low cost of funds have taken away need to securitize prime jumbo mortgages.

The prime jumbo environment already took down at least one issuer, as earlier this year, Two Harbors Investment Corp. announced that it planned to shutter its mortgage loan conduit and securitization business.

But with interest rates ticking up in recent days, there is the potential to see more securitizations moving forward.

“DBRS expects relatively slow growth of prime jumbo issuance in the near term, clouded by a low interest rate margin, agency dominance and the banks’ dormancy in securitization activities,” Tang writes in the report.

“From a credit perspective, there has been some collateral migration this year down the spectrum to the non-prime and non-qualified mortgage space,” Tang adds. “Such securitizations have so far maintained tight controls on underwriting, due diligence and collateral quality. DBRS anticipates non-QM issuance to gain further traction in 2017.”

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