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Subprime Performance Analyzed

Moody's issues analysis, updated criteria

July 25, 2007

By SAM GARCIA


A new ratings agency report drilled down to identify subprime issuers with the worst performing transactions. The report, which cited new attributes that will now be analyzed, also discussed the differences in performance by lien position.

There recently were 703 negative ratings actions by Moody's Investor Service on 2006 vintage subprime transactions, according to its U.S. Subprime Mortgage Market Update: July 2007. On just the first mortgage transactions involved, only tranches rated Baa or lower were affected whereas the more highly leveraged second mortgage transactions were affected across the board.

Some of the negative actions reportedly reflected recent market data resulting in higher loss assumptions.

Of the 2006 vintage transactions, after 10 months of seasoning, 8.6 percent of loans were at least 60 days delinquent, including 1 percent that were seriously delinquent, the report said. Loans that were severely delinquent "have continued to rise in a steep trajectory, averaging an increase of about 1% per month of seasoning."

Moody's noted a variance among servicers and issuers, with the best pools seeing losses between 5 percent and 7 percent and the worst pools experiencing 10 percent to 16 percent losses. Among the potentially worst performers are pools issued by Fremont Investment & Loan, Long Beach Mortgage Co., New Century Mortgage Corp. and WMC Mortgage Corp.

An analysis of pools broken down by loans 60 days or less delinquent and loans 90 days or more delinquent helped the ratings agency determine more accurate loss rates.

"The reason behind breaking up the pool along these lines was that borrowers who become severely delinquent soon after loan origination are expected to default at relatively high rates, with relatively low recoveries," Moody's explained. "These early defaulters tend to be some combination of first-time home buyers, borrowers who provided limited loan documentation to lenders, housing speculators and borrowers with little or no equity of their own in the homes."

Delinquent 2006 loans include a high proportion of early payment defaults, high rates of loans with no contact from the servicers and high vacancy rates, the report indicated. In addition, high loan-to-value loans where borrowers have little or nothing invested leaves them little incentive to continue making payments.

While performance was deteriorating on first mortgage transactions from 2006, second mortgage transactions from the second half of 2005 were primarily affected by the mass negative actions by Moody's. In stark contrast, second lien transactions from the first half of 2005 saw upgrades.

Servicers are quicker to recognize losses on second liens, with many written off after six months of delinquency, according to Moody's -- which noted half of 60-day seconds are a total loss.

Just during May, one second lien deal from Long Beach lost $51.3 million of its current pool balance in addition to $15.6 million in prior cumulative losses, the report indicated.

Due to the poor performance of subprime seconds, Moody's said it raised its average loss expectations by 15 percent to 25 percent. On first lien transactions where seconds were used, loss estimates have been raised by as much as 25 percent.

Loan attributes Moody's has recently added to its analysis include the depth and breadth of borrower credit history, borrower reserves and whether state-income borrowers were self employed. The agency also now considers whether borrowers are first-time homeowners and whether the loans are delinquent at securitization. In addition, deals from originators with poorly performing pools will have loss expectations as much as 20 percent higher than pools from issuers whose pools are performing well.

Another report from FBR Capital Markets suggested the ratings agencies are slow to downgrade transactions. FBR said it expects another 796 subprime securities -- about one-quarter of the total outstanding as of April -- will be downgraded.

FBR said it has recently observed lower transaction volume and wider subprime transaction spreads -- adding that there has been "no flight to quality."


Sam Garcia worked in mortgage lending for twenty years prior to becoming publisher of MortgageDaily.com.

e-mail: [email protected]

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