Monthly Archives: February 2015
MorVest Capital Says Recent Changes on FHA Loans Will Impact Mortgage Servicing Rights Fair Value
By Janice Sand on February 18, 2015 in National News
DALLAS, Texas /New York Netwire/ — MorVest Capital, LLC, a specialized investment firm focused on providing strategic capital and analytics solutions to the mortgage banking and residential finance industry, is drawing mortgage servicers’ attention to the impact two recent changes will have on mortgage servicing rights fair value for FHA loans.
“We prefer not to lead with the negative, but it is important for mortgage servicers to understand and respond to the changes recently implemented on FHA loans,” said John Sullivan, head of the firm’s Analytics Division. “Although the impacts are certain to be negative, steps can be taken to ameliorate them.”
According to Sullivan, one change is the reduced FHA annual Mortgage Insurance premium (MIP) of 50 bps, which will likely lead to increased prepayment speeds in certain vintages. In addition, Sullivan points out a “prospective” change to the treatment of Paid in Full (PIF) interest.
Historically, with exception of loans paid off on first business day of the month, servicers could charge borrowers for the entire month and pass that through to security holders (resulting in no shortfall exposure). Sullivan said the new rules work like a conventional mortgage, for which the servicer can only charge the borrower up through the date of payoff. Loans in Ginnie Mae pools are required to pass through a full month of interest to security holders.
“This will increase the interest shortfall exposure to servicers and will need to be baked into valuations,” Sullivan said. “The good news on this is that it is for loans closed after January 20, 2015, so it does not appear to have an impact on existing servicing rights.”
In order to maximize profitability and preserve expected MSR returns, Sullivan suggests servicers take actions to counterbalance potential negative fair value impacts, including, but not limited to:
* Analyze the impact of the MIP reduction to your existing portfolio and rank the borrowers from most-to- least likely to be incentivized by the MIP reduction. This will serve to prioritize refinance solicitations and better position preservation of that borrower through effective runoff recapture as opposed to exposing that income stream to competitive sniping; and
* Price the affect of the new PIF rules into pricing matrices and best execution models to help ensure achievement of desired returns.
Striving to address a funding gap for its clients’ MSR strategies, MorVest has collaborated with Customers Bank to create a long-term credit facility that allows mortgage companies not affiliated with a depository institution to aggressively retain MSRs. MorVest is the exclusive advisor to Customers Bank’s
$200+ million mortgage servicing rights (MSR) term lending program, and also invests as a principal, buying a participation in each MSR loan.
In concert with securing MSR financing, MorVest utilizes proprietary analytics models to project the impact of MSR retention for each client on future operating results and balance sheets, a unique benefit to these companies not available from competing lenders. The MorVest Capital analytics division provides independent MSR valuations, servicing brokerage and other risk management services to a growing stable of clients.
For further information about the impact of FHA changes on MSR strategies, call or write John Sullivan at 972-315-0126 or JSullivan@MorVestCap.com.
About MorVest Capital:
MorVest Capital, LLC is a Texas-based investment firm focused on providing capital and strategic solutions to the mortgage banking and residential finance industry.
The firm provides strategic advisory, debt and equity placement, and MSR valuation and brokerage services both for investors and operating mortgage companies. MorVest is exclusive advisor to Customers Bank (Nasdaq: CUBI) on its $200+ million mortgage servicing rights (MSR) term lending program. Its MorVest Analytics operation is a full service MSR advisor, providing its clients with portfolio valuation, hold/sell analyses and brokerage services.
Led by David Fleig: President/CEO, Stephen Hinckley: Chairman and John Sullivan: EVP/CFO, MorVest delivers investment advisory and capital management services pursuant to highly targeted mortgage banking and housing investments. Seasoned industry veterans Fleig and Sullivan have worked together as founding principals and operators in firms that employed successful niche industry investment strategies focused on warehouse lending and direct investment in MSR, generating excellent returns for their institutional and high net worth individual investors. Steve Hinckley is a former mortgage banking executive who has been in the private equity business for the past 15 years.
More information: http://www.MorVestCap.com/. Published on NewYorkNetwire.com Wed, 18 Feb 2015
Liquidity and Best Execution Strategies for Mortgage Servicing Retention
Feb. 10, 2015–Fleig, David; Sullivan, John
(David Fleig is CEO of Morvest, Houston, an investment firm focused on providing capital and strategic services to mortgage bankers. John Sullivan is president of MorVest Analytics, a division of MorVest Capital, which assist its clients with accumulation, disposition and management of MSR assets. The company’s web site is www.MorVestCap.com. This is Part Two of a series.)
In our previous contribution, we provided the historical perspective on why independent mortgage bankers began to retain mortgage servicing rights again a few years ago. While the economics of retaining MSRs are compelling and favorable tax treatment is available, a number of important considerations must be addressed to maximize opportunity for success. Our focus here will be addressing liquidity and refining best execution strategy, as one cannot be properly considered without the other. We will also mention a few other strategy issues important to firms retaining MSRs.
Let’s start with addressing liquidity. As cash margins contracted in the second half of 2013, many mortgage bankers that had been aggressively retaining MSRs began seeking financing, but options were limited. Several additional banks began offering such facilities in 2014 and quite a few facilities were closed and funded during the year. A few opportunistic hedge fund type entities also funded some large MSR loans, but at relatively high cost. Cash margins on loan originations and sales remain thin and consequently, independent mortgage bankers (those not affiliated with a bank) wishing to retain MSRs in 2015 are faced with potentially significant liquidity concerns.
We expect a flurry of MSR finance activity in Q1 2015, as mortgage bankers typically focus on strategic planning this time each year. This will include firms finally obtaining their first MSR facility, and others expanding on existing capacity. MSR financing is not nearly as homogeneous as warehousing.
Here are some pointers when considering providers:
• Focus on obtaining a facility that permits you to draw funds as needed over the next year or even longer before the loan “terms out.”
• Avoid facilities that mature in one or two years in favor of one that better matches the duration of your MSR asset. Don’t bet your business on some bank renewing a facility, regardless of how attractively priced the money appears to be. What if that loan officer leaves or the bank is purchased by an institution not interested in MSR lending exposure?
• Carefully review the margin call provisions of the MSR loan agreement and seek a bit of cushion before a cash payment would be required. How will fair value be determined? Also, drawing down less than the maximum available under the facility will also provide some cushion should rates drop significantly after draws are made.
• Don’t forget to consider whether the lenders offer compensation for your custodial bank account balances.
While MSR financing arrangements may represent the cheapest way to address liquidity, other avenues of adding cash may be available and necessary. For one thing, the advance rate on MSR facilities is not likely to exceed 60 percent of fair value and in many cases may only be 50 percent. Further, for firms with less than $10 million net worth, MSR financing is likely not available at present.
Finally, even the largest independent mortgage firms may need to add to their capital stack to convince their existing MSR lender to add capacity to their line, particularly if the MSR asset exceeds total net worth. We believe the best alternative for such companies will be adding mezzanine capital, either subordinated debt or preferred stock. While more expensive than MSR debt, mezzanine capital is still far cheaper than equity and thus should be accretive.
Now let’s move on to refining your best execution strategy. This exercise requires fairly intensive analytics and access to sophisticated modeling tools. The following are its key components:
• Pro-forma modeling to understand the future income statement and balance sheet impacts of servicing retained vs. release strategy adopted.
• Retain vs. Release Analysis. Compares economic cash flows to market cash flows.
• Initial Capitalization Analysis. Requires matrix which considers relevant factors such as loan size, geography, term structures, product types and par rate adjusters.
• Incorporate above into best execution models to maximize gain on sale and retained MSR intrinsic value.
For those that have not yet begun to retain servicing rights, it is very important to engage in a pro-forma exercise to estimate the impact of this decision on financial performance. It is a healthy exercise for all firms which retain MSRs to develop projected income statements and balance sheets under a variety of “retain vs. release” scenarios. This will provide more insight into the magnitude of liquidity considerations and the impact on financial covenants with counterparties, better preparing your organization to successfully navigate your business plan. Another key component of the pro-forma exercise is rate shock analysis, which will quantify the impact of rate movements on operating results and better understand how the mix of servicing and production impacts financial results.
To successfully accomplish best execution on new production it is important to integrate a more sophisticated calculation of MSR fair value into your overall loan sales strategy. Many participants use an average MSR value which can result in misleading results. All servicing is not created equal and it is important to consider characteristics surrounding each loan such as loan size, loan type, term structure, product type, geography, LTV, credit quality at a minimum. All of these factors weight into the accumulation of MSR fair value in the marketplace.
When considering these factors up front, you are better able to fine tune which loans make sense for you to retain vs. release, enhance bottom line results and avoid unwanted surprises when subsequent mark-to-market analysis is completed. Today’s systems are sophisticated enough to integrate a more granular level MSR component when selling loans into the secondary market (whether delivered to aggregators or directly to the GSEs). To accomplish this, an MSR pricing grid with an appropriate level of detail should be obtained from a reputable source.
Beyond addressing liquidity and refining best execution, here are a few other things to consider as you think about your MSR retention plan for 2015:
• Containing Cost to Service. Broadly this can include automated systems, process refinement, outsourcing and personnel if you are servicing in-house. Subservicers typically have a fixed base cost per loan, but charge extra for delinquent and defaulted loans. Regardless of whether you service loans in-house or not, loan type and delinquency performance will have a profound impact of your servicing cost, and therefore the profitability of your MSR asset. For example, high LTV government loans are going to be more delinquent and costly to service than low LTV conventional loans. The more these factors are considered in your initial capitalization analysis (above) the better your MSR portfolio performance and valuation will be.
• Recapture. All portfolios experience runoff and depending on the interest rate environment, refinance activity can represent a material portion of total runoff. Lower runoff means more cash flows, which translate into a higher return on your asset. Successful managers of their servicing portfolio find ways to refinance their existing borrows and hence preserve cash flows thus enhancing the yield recognized.
• Hedging the MSR asset. Opinions vary but once the MSR asset UPB exceeds total annual production, consideration should be given to hedging, and once UPB exceeds 2X annual production, it becomes a very critical consideration. Hedging done right will greatly reduce impairment risk, P&L volatility, but will likely also introduce additional liquidity demands due to the potential for margin calls.
(The views expressed in this article do not necessarily reflect policy of the Mortgage Bankers Association, nor does it connote an endorsement of a specific company, product or service. MBA NewsLink welcomes your submissions; articles and/or Q/A inquiries should be sent to Mike Sorohan, editor, at firstname.lastname@example.org.)
© 2013. MorVest Capital.