Investors Expect Improvement in European RMBS Collateral Performance But Marked Deterioration in U.S. RMBS Collateral Performance

LONDON, Feb. 17 /PRNewswire/ -- Investors' default rate forecasts for collateral in nearly all classes and vintages of U.S. residential mortgage-backed securities (RMBS) have risen dramatically since S&P's previous quarterly survey, while predictions for European mortgage default rates have fallen across all classes and vintages with the exception of Spain.

In January, S&P's Valuation & Risk Strategies group, part of S&P's Fixed Income Risk Management Services division (an independent group within S&P) undertook the latest quarterly Valuation Consensus Survey. Initiated in Q1 2009, the survey is aimed at providing greater transparency on the key input assumptions market participants use to value structured finance assets.

For U.S., U.K., Spanish, Dutch, and Italian RMBS, S&P invited respondents to provide their valuation input assumptions at the asset class level, the vintage level, and on a transaction-by-transaction basis.

Default Rates:

Twelve-month default rate expectations on certain U.S. RMBS collateral have doubled since the previous quarterly survey, with U.S. 2007 Alt-A pay option ARM RMBS collateral default rate predictions rising to 25% from 12% polled in Q3. For the same vintage, U.S. prime fixed-rate collateral default forecasts rose to 5.75% from 4%; U.S. prime adjustable-rate collateral default forecasts moved up to 10.5% from 6.25%; and U.S. subprime collateral default forecasts increased to 34.36% from 23%.

By contrast, 12-month forecasts for U.K. nonconforming loan RMBS collateral default rates across an average of vintages fell to 4.61% from 9% polled in Q3; for prime U.K. mortgage default rates, the 12-month average forecast for all vintages fell to just 1.09% from 2%; forecasts for Italian and Dutch mortgage default rates dropped to 1.21% and 1.32%, respectively, while Spanish mortgage default expectations were stable at 2.8%.

Loss Severity (the severity of any losses occurring on the collateral in default):

Loss severity forecasts on all vintages and classes of U.S. RMBS collateral have increased since the Q3 survey. Most significantly, 12-month loss severity assumptions on the mortgages behind U.S. prime fixed-rate and U.S. prime adjustable-rate RMBS have increased to levels close to alignment with the mortgages behind lower quality U.S. Alt-A pay option ARM RMBS and U.S. subprime RMBS. For 2005, 2006, and 2007 U.S. prime RMBS vintages, the average 12-month loss severity forecast for collateral is 59% (up from 47% polled in Q3), compared with 64% for the same vintages of subprime collateral (up from 62% in Q3).

This contrasts with the U.K., where 12-month loss severity estimates on all vintages of U.K. prime RMBS collateral dropped to 26.7% from 27.6%, and for U.K. nonconforming loan RMBS collateral to 33% from 36% in Q3.

House Prices:

The survey implies a bottoming out of U.S. and European real estate markets before the end of 2010, with U.S. national home prices expected to average a 5% decline over the next 12 months compared with a 5.8% fall predicted for U.K. house prices.

In contrast to the previous survey, European structured finance market participants are in broad agreement when the UK, Dutch and Italian national housing markets will trough, with 50% predicting Q4 2010. However, they do not expect the Spanish housing market to trough until 2011.

RMBS Issuance:

In the U.S., most participants expect total non-agency RMBS issuance in 2010 to amount to less than $10 billion, excluding re-REMICs that securitize existing RMBS. U.S. participants believe that RMBS transactions issued in 2010 will predominantly possess Prime characteristics (with, on average, borrower FICO scores ranging from 721 to 740, coupons between 5.1% and 6.0%, and loan-to-value ratios ranging from 60% to 80%).

In the U.K., however, the consensus appears to be for between 11 billion pounds Sterling and 25 billion pounds of U.K. prime RMBS issuance in 2010. The buy side (33%) expects between 1 billion pounds and 10 billion pounds, while the sell side (29%) predicts as much as 25 billion pounds to 100 billion pounds.

The Valuations Consensus Survey:

FIRMS' quarterly survey invites institutions from both the buy side and sell side to provide details of their valuation methodologies and to give their expectations for four key valuation inputs: constant default rates, loss severity, prepayment rates, and recovery lag.

"The figures from the latest survey show that there remain concerns for the performance of some classes of mortgage collateral, particularly in the U.S., and, further, that there remain some disparities between the valuation approaches of different sides of the market," says Peter Jones, senior director of Valuations & Risk Strategies, part of S&P's Fixed Income Risk Management Services division. "Over the past 18 months it has proved difficult to deliver truly comprehensive methods for security and portfolio valuation. But, encouragingly, the results from our latest survey also imply signs of converging valuation methodologies within the structured finance market."

About Standard & Poor's Fixed Income Risk Management Services

Standard & Poor's Fixed Income Risk Management Services delivers a portfolio of products and services to investors that serve the global financial markets by providing market intelligence and analytic insight for risk driven investment analysis, including for the debt, structured finance, derivative and credit markets.  Standard & Poor's Fixed Income Risk Management Services are performed separately from any other analytic activity of Standard & Poor's. The unit has no access to non public information received by other units of Standard & Poor's. Standard & Poor's does not trade on its own account. 

SOURCE Standard & Poor's