Fitch Ratings said today that it will incorporate several enhancements to its existing proprietary MI capital model reflecting what it called “rapidly changing mortgage environment,” corresponding to the agency’s recent updates to its RMBS models:

The revisions to the U.S. MI capital model will be mainly centered on increasing the expected default probability used to model the existing mortgage insurance-in-force (IIF) exposure at each company, reflecting changes that have taken place more recently in the U.S. mortgage markets. Consistent with recent enhancements made to the ResiLogic model, Fitch will increase the default probability in its MI capital model by 20%. Fitch believes this higher assumed default rate will better incorporate the risks inherent in the U.S. mortgage market, such as greater deterioration in home prices and significantly poorer performance of loans with certain characteristics. Fitch will also be applying a more significant capital charge to all illiquid equity investments held within the investment portfolios of the MI companies. Going forward, the capital charge for illiquid assets, such as investments in subsidiaries or equity investments in unrelated third party entities will be increased to 100%. Previously, Fitch had been applying a lower capital charge against these assets. The updated charge reflects the potential challenges in extracting liquidity from such investments during periods of financial stress. The impact of this change will vary by company, with several of the MI companies being relatively unaffected.

Fitch characterized its changes as an “interim step” and said it will be further revising its MY capital models to match the agency’s current RMBS model — a sign that mortgage insurers may be coming under increasing scrutiny and perhaps additional pressure in coming months. Fitch acknowledged that its changes will likely affect some MI market particpants, who will find that that they “no longer maintain the necessary level of capital expected for their given ratings level.”