In the aftermath of private-label RMBS volume taking a nose dive in 2008, the industry has been developing a set of common standards for how deals are structured and brought to market.
A lot of work has been done, but much more lies ahead. And 2015 could be a key year for these efforts because the market is finally getting comfortable with taking on more risk.
“We’ve been talking to quite a few issuers who are kind of considering and developing programs that expand credit,” said Grant Bailey, managing director at Fitch Ratings in New York.
Industry standardization is important to these developments because it promotes the use of common reference points that ensure buyers and sellers are on the same page when they enter into a deal. These can include establishing consistent practices for data formatting, stakeholder communication and originator, issuer and servicer obligations throughout the life of a deal.
These standards only play a limited role in speeding the private label market’s revival. But without them, the market may never achieve any real economies of scale. As investors seek to grow volume by taking on more risk, standards can also help them avoid crossing into the dangerous levels of collateral risk that contributed to the market crash.
“I think some would argue that jumbo transactions issued in recent years include some of the best collateral that’s ever been securitized. So we certainly don’t think that collateral quality has been a primary concern,” said Rui Pereira, a managing director and RMBS head at Fitch. In that light, the market has room to expand.
If the government is ever going to hand off its risk in the mortgage market it currently dominates to the private sector, a critical mass of large “anchor” investors will be required to facilitate that transition. Right now these investors aren’t there, in part due to a lack of acceptable standards. And there’s no underestimating the amount or work that will be needed to get a more comprehensive set of benchmarks in place before risk ramps up again.
“There have been improvements in certain standards compared to pre-crisis deals,” said Eric Kaplan, chair of Structured Finance Industry Group’s RMBS 3.0 task force. “But some believe these improvements are not good enough, or are merely good enough for now under the current super-prime RMBS environment.”
Whether the market needs more volume to successfully standardize or vice versa is a classic chicken-or-the-egg scenario. In a slow market, there’s less pressure on sellers to implement the types of standards needed if they were dealing with higher volume, said Bailey.
On the other hand, it’s difficult to build market volume without standardization already in place, said Les Parker, a senior vice president at loan performance analytics and pricing software provider LoanLogics.
“It’s not scalable the way it is now,” he said.
The private-label market securitized more than $1 trillion in loan volume per year during the peak years of 2005 and 2006, according to CoreLogic Loan Performance. But annual issuance volume plummeted to $2.6 billion in 2011, and by 2013, volume was still less than $23 billion.
SFIG’s standardization efforts have so far been concentrated on three areas: representations and warranties and repurchase enforcement; due diligence/loan review, data and disclosure; and the role of transaction parties and bondholder communication.
“While we’ve seen multiple frameworks with varying features, including sunsets, I don’t think that the market has established a benchmark that large investors are entirely comfortable with,” said Pereira. Sunsets refer to a time limit on loan errors that can be used as the basis for lender buybacks.
The second of SFIG’s three areas of focus is furthest along, but still not complete. Servicing is another area that SFIG wants to address at some point in the future. While it’s an area where the least amount of progress has been made, that could soon change, given regulators’ shift in focus from originators to servicers.
Investor reporting between servicers still varies and is often incomplete, but regulation has helped standardized servicing practices somewhat. For example, a servicer boarding a portfolio of loans in a servicing rights transfer must now ensure certain data elements are complete upfront, noted Ed Fay, the CEO of Fay Servicing. Previously, servicers simply accepted limited data in the transfer and tried to fill in missing fields later. But standardizing servicing still can be really challenging, he said.
“You have probably 75 different types of mods that could be done,” Fay cited as an example.
The roles of different parties in the transaction, including servicers, generally remain a sticking point in standardization discussions. But some of these are now better defined than they were before the crisis.
“Due diligence firms today have a firm understanding of what their requirements are,” said John Levonick, chief compliance counsel at Opus Capital Market Consultants, a division of outsourcing and technology firm Wipro Ltd.
Due diligence and loan reviews are also better than they were post crisis, but they aren’t yet optimal, said Parker. Reviews are now more extensive and can weed out more errors. But they are less efficient and less automated than before the crisis, and should be conducted earlier in the process by more participants, he added.
And while data is more consistent throughout issuer and servicer systems, ensuring that system data matches the information on loan documents remains a challenge.
“I wish loan data was better,” Parker said. “Is there a lot of definition around that data? Yes. Is there enough? No.”