Tracking delinquency trends in non-QM
admin | November 22, 2019
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.
Overall delinquency rates in non-QM trusts remain low but recently have begun to tick up modestly. Comparing the population of performing loans to ones more than 60 days delinquent shows cash-out refinacings, loans with low FICO and loans with high SATO make up a disproportionate share of seriously delinquent non-QM loans while investor loans play a much smaller role.
Sizing up the non-QM universe
The universe of non-QM loans totals slightly more than $17.8 billion across 14 issuers. Loans more than 60 days delinquent make up just 1.6% of the overall universe. Low delinquencies are likely largely attributable to the confluence of rising home prices, low interest rates, strong underwriting and overall spread compression on risk-based pricing. The universe of non-QM loans is marked by nearly 30 points of borrower equity at origination. Cash-out refinancings, as of October, make up roughly 40% of the population while investor loans comprise roughly 20% (Exhibit 1).
Exhibit 1: The non-QM universe at a glance
A rise in delinquency rates is not particularly surprising. The asset class falls outside the purview of prime lending and has higher expected default and loss rates. Additionally, the seasoning of the universe should impact delinquency rates. Given that the universe is roughly 20 WALA, it is effectively moving up a traditional CDR curve even against the backdrop of a favorable housing market.
Delinquency rates and the profile of seriously delinquent loans vary somewhat materially from issuer to issuer. Looking at delinquency rates across the universe, shelves with larger concentrations of serious delinquencies tend to have more seasoned loans in their delinquency buckets. For example, loans that are more than 60 days delinquent in Lima One’s RCO shelf are almost two years more seasoned than the average WALA on delinquent loans across other shelves. Certain shelves with more seasoned loans but lower delinquency rates may be to some extent attributable to the fact that the loans were already seasoned when they were securitized, and any loans that were not current were not put in the deal. (Exhibit 2)
Exhibit 2: Non-QM delinquencies are generally comprised of more seasoned loans
Comparing the population of delinquent loans to the universe
Looking across the population of seriously delinquent loans relative to the broader universe shows that delinquent loans are not exactly a representative sample of the broader universe. Comparing delinquent loans to the population of performing loans shows an even more meaningful contrast. LTVs are roughly consistent between performing and delinquent loans. Unsurprisingly, seriously delinquent loans have an average FICO score roughly 40 points lower than current pay ones and have nearly 100 bp more Spread at Origination (SATO).
Cash-out refinancings make up nearly half of seriously delinquent loans. By contrast they make up less than 30% of current-pay loans. Defaults on cash-out refinancings may pose a particular problem in non-QM trusts if the borrower can demonstrate that the additional leverage provided was the cause of the default and that the borrower did not have the ability to repay the larger loan amount. If the borrower can challenge Ability to Repay under the Qualified Mortgage rules, the servicer would be unable to foreclose on the borrower, effectively leaving modification as the only option to re-perform the borrower and keep them in the home. The potential asymmetry associated with the inability to foreclose could lead to more favorable modification terms for the borrower that what would be available to them if the option to foreclose was on the table. Conversely investor loans make up a relatively small amount of delinquencies, just over 18% versus 25% of current pay loans. As of October, the population of seriously delinquent investor DSCR loans was slightly lower than their contribution to both the larger universe and current pay loans. (Exhibit 3)
Exhibit 3: Comparing loan attributes across current and delinquent non-QM loans
Comparing across issuers
Comparing the differences between current-pay and seriously delinquent loans across issuers reinforces potential credit concerns around cash-out refinancing loans. Cash-out refinancings made up a material percentage of seriously delinquent loans across many issuers and for Oaktree’s BHLD shelf, cash-out refis made up all serious delinquencies, admittedly on a small sample. The population of delinquent traditionally underwritten investor loans relative to current pays ones varied fairly significantly by shelf while DSCR loans showed relatively benign credit performance across the majority of shelves. (Exhibit 4)
Exhibit 4: Comparing loan attributes across current and delinquent loans across shelves