Mortgage servicing rights on more than a half-trillion dollars in residential loans have been sold by financial institutions to non-bank mortgage servicers during the past year. While the acquisitions have been dominated by larger servicers, smaller players have started buying.
The country’s banks have been busy selling MSRs as they face regulatory capital impacts from their subprime mortgage servicing portfolios.
Some of the motivation for banks to unload their subprime MSRs, as well as MSRs on distressed loans, is regulatory risk associated with the migration to Basel III.
That assessment was made by Fitch Ratings, according to an announcement Thursday.
The ratings agency explained that a maximum value of MSRs a bank can count toward Tier I capital is effectively 10 percent.
“As a consequence, banks approaching the thresholds will likely reduce their servicing assets to take into account the deduction from capital,” Fitch stated.
Smaller banks are most likely to divest whole servicing portfolios.
On the other side of those transactions are non-bank mortgage servicers that have significant levels of private equity ownership.
The investment strategies of private equity include the achievement of cost efficiencies through increased scale. Some are also capitalizing on slowing mortgage refinancing — which drives up the values of MSRs.
But Fitch said that private equity involvement raises questions about the firms’ investment horizons and capital extraction plans related to owned mortgage servicers.
“Fitch believes the growth and outsized scale of larger non-bank servicers may pose challenges to a potential orderly transfer of servicing, should it become necessary,” Fitch stated. “In high stress, low probability scenarios used to analyze the ratings of high investment-grade structured finance bonds, a potential large portfolio transfer of servicing may have negative rating implications for these bonds.”
Among the biggest recent non-bank buyers of MSRs from banks are Ocwen Financial Corp., which acquired MSRs on $78 billion in loans from OneWest Bank earlier this month for $2.5 billion. Ocwen acquired MSRs on $85 billion in loans from Ally Bank a month earlier.
Walter Investment Management reported in February that it acquired MSRs on $88 billion in loans from Bank of America Corp.
Nationstar Mortgage Holdings Inc. disclosed in January that it agreed to acquire MSRs on $215 billion in loans from BofA.
While Fitch sees temporary growth opportunities for non-bank servicers, the long-term opportunity is limited by a decline in the subprime market as a result of the lack of new subprime originations since 2007.
“We believe larger subprime servicing specialists will eventually be driven toward increased origination activity as the housing market improves and the balance of distressed loan MSRs diminishes in a more benign market environment,” Fitch stated. “In the process, balance sheet risk for these servicers is expected to modestly increase.”
Fitch noted that the entry of smaller servicers could mitigate the risk associated with a concentrated servicer landscape.
The New York-based firm said there is enough existing capacity and expertise at smaller nonprime servicers to make portfolio acquisitions from smaller institutions that want to divest servicing portfolios in the near to medium term.
Fitch acknowledged that each MSR acquisition is unique, and it plans to evaluate each transaction based on an analysis of repurchase obligations, litigation risk and servicers’ portfolio integration ability.
“These risks are a function of the types of mortgages assumed, as well as their vintages,” the report said.
