–Costs Likely To Be ‘Manageable’ By Banks
–Expects GSEs To Increase Loan Repurchase Requests
–Buildup in Buyback Reserves To Be ‘Steady, Not ‘Precipitously Sharp’
–Repurchase Losses on Loans Sold To GSEs To Be Majority of Bank Loss
By Yali N’Diaye
WASHINGTON (MNI) – As investors ramp up the pressure on lenders to
repurchase poorly performing loans packaged up in residential
mortgage-backed securities, there is growing concern over the related
costs for banks, and at a time when their mortgage credit costs are
falling.
Yet Moody’s Investors Service Monday estimated that the cost
for the banking
industry as a whole will likely be less than $110 billion and would be
“manageable” for banks — provided ratings are unchanged.
Banks, it said, are likely to build up reserves steadily given the
protracted litigation process associated with loan buybacks.
Moody’s analysts David Fanger and Sean Jones wrote in a report that
“repurchase and foreclosure delays will be increasingly material and
sizeable but remain manageable by banks in the context of their existing
ratings.”
The authors warned, however, that if the mortgage electronic
registration system (MERS) turned out to be an invalid nominal
mortgagee, however, “it would significantly increase the severity of
losses on delinquent loans where MERS was holding title, let alone
create havoc in the residential mortgage securitization market.”
That scenario has a low probability of actually materializing, but
if it does, the negative consequences would be “tremendous.”
To estimate the repurchase cost, Moody’s considered three elements;
the percentage of originated loans that were sold to third parties that
could default, the percentage of defaulted loans that could be put back
to originators and the percentage of put back loans that the banks will
fail to cure.
Moody’s cited estimates by market commentators ranging from $20
billion to $275 billion against the entire pool of mortgages originated
and sold during the 2004-08 period.
“While we think that the low estimate is probably too low, we also
think the high end of the range is extremely unlikely (the ten largest
industry participants have already expensed more than $20 billion
through provisions and write-offs and we expect most issuers will need
to continue adding to repurchase reserves over the next two years),” the
report said.
“We continue to develop our estimates, but believe at this point
that the number is most likely to be in the lower third of the range of
market estimates (i.e., less than $110 billion for the industry as a
whole, of which the industry has already expensed $20 billion).”
The authors note that while GSEs provide the best data regarding
repurchase requests, estimates even on GSE repurchases are wide, ranging
from $14 billion to $65 billion.
They note divergences in “the percentage of delinquent loans that
the GSEs will ultimately request to be repurchased (most estimates range
between 25% and 50%), and the severity of loss on those loans
(40%-60%).”
While most estimate that half of the GSEs’ repurchases will be
accepted, Moody’s said the GSEs themselves disagree on that assumption.
The situation is much more opaque when it comes to non-GSE
mortgages, with buyback requests still “rare.”
Moody’s notes that many market commentators assume higher success
rates in the repurchase requests given the weak nature of the mortgages
relative to those sold to GSEs.
“However, at this point there is little evidence to support this
assumption, other than the claims of investors,” the authors wrote.
For Moody’s, however, the opposite is more likely.
“At this point we believe the industry-wide cost for repurchase of
non-GSE mortgages will be well below the midpoint of the range of
estimates in the market today, based on our assumption that the
repurchase request rate and the repurchase acceptance rate will be lower
than for GSE mortgages,” Fanger and Jones said.
“This assumption reflects not only the higher hurdles faced by
non-GSE investors in submitting repurchase requests (apart from the
monoline insurers), but also the weaker Representations and Warranties
usually provided by originators on such loans (relative to GSE
mortgages).”
In addition, “We also see the buildup in repurchase reserves being
steady, but not precipitously sharp, as the process for a bank to
repurchase a loan is a protracted one.”
And while Moody’s agrees that buyback requests from private RMBS
investors will increase, the authors “think it is reasonable to assume
that the GSEs will increase their requests too.”
In fact, considering the difficulties experienced by private
investors to enforce their rights, “we still expect that the repurchase
losses on loans sold to the GSEs will represent the majority of the
repurchase losses the banks will incur.”
Moody’s does not expect costs related to flawed foreclosure
practices to be as ongoing as are “costs related to repurchase
reserves,” because banks are actually rectifying their procedures.
Already, Federal Reserve Bank Chairman Ben Bernanke Monday said
federal regulators are conducting an “in-depth” review of practices at
the largest mortgage servicers, with preliminary results expected next
month.
Regulators are seeking to identify “systematic weaknesses” in
foreclosure practices, he said.
“I would like to note that we have been concerned about reported
irregularities in foreclosure practices at a number of large financial
institutions,” Bernanke said in remarks at a joint Federal
Reserve-Federal deposit Insurance Corp. symposium on mortgages and the
future of housing finance.
“The federal banking agencies are working together to complete an
in-depth review of practices at the largest mortgage servicing
operations,” he continued.
But more than foreclosure irregularities, “A longer term issue for
the banks will be the incremental administrative costs related to
foreclosures undermining their core earnings,’ Moody’s said.
“The tail risk for the banks would be the impact of another
contraction in the economy,” the authors concluded, as “a worsening
economy would increase defaults providing increased incentive for the
investors to put back more loans as they become more aggressive and
better organized.”
While those are low probability events, they have “tempered our
positive rating actions, despite noticeable improvement in the banks
capital and asset quality metrics in 2010.”
** Market News International Washington Bureau: 202-371-2121 **
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