It’s the $100 billion question: When and what will it take for private-label securitization to return in a meaningful way? By my count, this question was the subject of at least four separate panels here at ABS Vegas over the past two days and countless hallway and cocktail party discussions.
Most of the panelists and attendees I encountered seemed to be optimistic that private-label issuance will grow and become more diverse in 2015. But none were willing to predict when it would hit the triple-digit level again. (In fact, one panel which had on its agenda the specific question: “When will it be a $100 billion market?” didn’t pose the question to its participants.)
Since 2010, DBRS, the rating agency, reports that there have been 71 new private-label securitizations, totaling $26.3 billion. Last year, 28 new deals—all super prime jumbos—valued at $8.8 billion came to market. This was down from $13.1 billion (31 deals) the year before. So getting back to a meaningful level of issuance, say $100 billion, seems a pretty tall order. Of course, in the heyday of private-label issuance, $100 billion was only about 10% of the total market.
During the various sessions, panelists cited a number of headwinds for the non-agency RMBS market. They included large banks’ willingness to portfolio jumbo product; continued competition from the GSEs; confusion over risk retention rules; and new concerns about eminent domain. Certainly most, if not all of them, have been inhibitors. To this list, I’d add two more hurdles that will have to be overcome.
The first is investor demand. Based on our discussions with investors, it’s still not there—yet. An argument could be made that the post-2010 deals have been issuer-driven: testing the market and demonstrating the safety of the product. But many investors still remain lukewarm about private-label securities, remembering all too clearly the loss they took on legacy RMBS.
What would change this? I think investors want to see more standardization in terms of deal structure, reps & warrants, documentation and data transparency. They are also looking for a fiduciary within the deal who would have clear responsibility to represent bondholder interests. Having said that, there is no agreement as to how to structure this role, who would assume it (a trustee or not) and how to pay for it.
Also, investors don’t want to have to read the fine print in a lengthy offering memorandum… and do it again and again. Vince Fiorillo, an investor with Doubleline Group said he didn’t want “to have to read 200 pages to understand the deal—just give me four pages.”
In my mind, the other big hurdle is a combination of motivation and economics. The big banks need a compelling reason to securitize again. They are happy with the quality and yield of the prime jumbos they’re originating. In the first three quarters of 2014, Inside Mortgage Finance estimated there was $168 billion in jumbo originations and less than 5% ended up being securitized. Securitization, they believe, comes with litigation and headline risk, not to mention high transaction cost.
So what will it take?
On yesterday’s panel of The Overview of the U.S. Housing Market, economists and bankers noted that some of the real estate challenges to securitization are resolving themselves. Negative equity is declining, shadow inventory isn’t an issue anymore and home prices in most markets are back to or near their pre-crash levels. The consensus among the panelists was that HPI would grow at a rate somewhere in the three to five percent range in 2015.
In looking ahead to the home-buying season, several panelists noted that while home affordability is high and interest rates are relatively low, credit availability remains tight. Thanks to their overrides, lenders “are originating ‘no-loss’ mortgages” that are more restrictive than GSE specs, said Scott Buchta, head of fixed income strategy at Brean Capital.
Is subprime coming back?
Barring any changes in conventional loan limits, most observers (and I include myself in this group) expect private-label securitization to grow incrementally at least for the remainder of this year and probably into 2016.
Issuers like Redwood expect to bring more prime jumbo deals to market. Also, depending upon whom you talk with, there’s a chance that the first non-QM securitization will come to market in 2015. On Tuesday, for example, Shellpoint Partners said it hoped to issue a non-QM security later this year.
According to Bloomberg News, J.P. Morgan recently estimated that as much as $5 billion of non-QM bonds could be issued in 2015.
Of course, before that can happen, the rating agencies will have to finalize their approaches to non-QM securitization, and that hasn’t happened yet.
Current thinking is that the first deals will be prime credit, but with some issue that renders them non-QM: for example, DTIs higher than 43% or interest-only features made to high FICO, high LTV borrowers.
It’s also been reported that lenders, like Macquarie, and a handful of new conduits are beginning to aggregate loans that resemble old-time subprime, now renamed non-prime. Make no mistake: this isn’t the “fog-a-mirror,” NINA-version of subprime circa 2006. There will be a very careful validation of value and ability to repay, and these loans will most likely be offered selectively to borrowers who have had financial setbacks but overcame them. Whether these products can be securitized will depend upon what the agencies will require in terms of subordination. The minimum subordination levels mentioned by the ratings agencies varies and could range from 18 to 20% and significantly higher on risker pools.
In thinking back over the last few days, it seems to me that there was more energy and optimism about focusing on the real issues that both investors and issuers are grappling with. These range from the economics of securitization to solving for the structural issues that still trouble investors about this asset class. Ultimately, how we address these issues will be the answer to the $100 billion question.