Ch. 25: Nonagency Residential Mortgage-Backed Securities: Legacy, RMBS 2.0, and Non-QM

Key Collateral Drivers for Loan Performance

Coupon rate and fixed vs. hybrid: Coupon rate and weighted average coupon (WAC) refer to the interest rate of a mortgage or the average rate for a pool of mortgages. Higher coupon usually indicates a higher prepayment incentive. On the other hand, a higher than prevailing interest rate at origination often associates with certain credit impairments. Hybrid borrowers are typically more leveraged than fixed-rate borrowers. In addition, the rate reset can cause substantial payment shocks under an increasing rate environment. Therefore, hybrid loans tend to have worse credit performance.

LTV

Credit score (FICO score)

Debt-to-income ratio and documentation: (Lenders often require various documents as proof of a borrower’s income assets. In general, full documentation involves verification of income (W-2, pay stubs, etc.) and assets (bank statements, brokerage statements, etc.).)

Measurement of collateral performance

Key measurements of collateral performance include delinquency, default, voluntary prepayment, and loss severity. Voluntary prepayment and default speeds are quoted as annualized conditional prepayment rates (CPR) and annualized conditional default rates (CDR), respectively.

Additionally, the roll rate metrics provide important indicators for near-term future performance. A roll rate is the rate at which previously current or delinquent loans are “rolling” into another status. A transition matrix is a combination of roll rates for each status.

Loan Modification

Recapitalization, in which the accrued interest on a past due loan is rolled into the principal.

The more effective type of modification involves reducing the interest rate of the mortgage, which can reduce the borrower’s monthly payment without an immediate principal loss to investors.

Principal forgiveness and forbearance are more aggressive approaches, under principal forgiveness, the borrower is forgiven for a certain amount of remaining balance of the loan, which lowers the LTV. Under principal forbearance plan, the remaining balance is due as a balloon payment at maturity.

Internal credit enhancement

1.Lockout Period: Subordinate bonds can't receive prepayments for a set period after settlement.

2.Triggers: Tests ensure credit support remains intact and control the release of credit support.

3.Structures: Linear structures have one collateral group, Y-structures divide collateral for different bond types, and H-structures have multiple groups with cross-collateralization.

4.Clean-up Call Provision: Allows the residual holder to buy remaining bonds at a specified price when the pool factor is low.

External Credit Enhancements:

What’s roll over rate

In the Commercial Mortgage-Backed Securities (CMBS) market, the roll rate refers to the percentage of loans that move from one delinquency status to a more severe delinquency status over a specific period