The credit quality of some of the private-label RMBS deals in the works is not as high as that of recent deals by Redwood Trust, according to Fitch Ratings.
Fitch warned Wednesday that recent “rep and warranty” proposals in new U.S. RMBS deals may expose investors to added risks from “weak” underwriting and “defective” mortgages. The ratings agency believes that these weaker proposals need to be accounted for in the credit enhancement, where possible.
Fitch didn’t name any names, but there has been much talk about at least two major banks, JP Morgan and Bank of America, as well as additional real estate investment trusts (REITs) approaching the market even before the end of this year.
Just $5 billion of deals came to market in 2012, but expectations are that volume could quadruple this year.
Fitch said a rep and warranty framework that was established by the American Securitization Forum, and has been seen in all of Redwoods deals to date, “reflects a high standard that provides the most assurances about loan origination and underwriting quality.” These reps contain few knowledge qualifiers, the repurchase obligations are for the life of the loan, and there is little ambiguity.
"With some of the most recent RMBS proposals, however, the rep and warranty frameworks contain provisions that Fitch deems weak." It cited provisions relieve lenders from their repurchase obligations after fewer than 36 months or that contain proximate clause language and materiality factors in determining if a breach occurred.
“These provisions begin to introduce subjectivity and may burden a mortgage trust with additional risks and expenses,” said senior director Suzanne Mistretta said in the report.
The balance between protecting both lenders and investors in new RMBS deals requires greater clarity and transparency so that investors remain protected and lenders remain incentivized to make sound underwriting decisions, Mistretta said.
She said the proposals vary widely. "Transactions with significant third party due diligence and strong credit quality borrowers would provide greater confidence that any future default risk would be driven by credit events and not operational weaknesses."
Credit Suisse included time limits,also knowns as "sunset provisions," on buybacks in a $329 million RMBS deal issued in November. Standard & Poor's, the agency to rate the deal, said at the time that the provision didn't affect its view of the debt's risks because the loans used as collateral were of such exceptionally high credit quality by historical standards. S&P assigned an 'AAA' rating to the top three tranches of notes issued by the trust.
