Thursday, April 29, 2010

Moody’s Assigns Redwood RMBS Triple-A as S&P Warns on Credit Risk

Original posted on the Housing Wire by Diana Golobay:

Redwood Trust closed a $237.8m prime jumbo residential mortgage-backed security (RMBS) sponsored by its wholly-owned subsidiary, RWT Holdings. The deal marks the first private-label RMBS in the US since 2008, and is already bringing about disagreements from the credit rating agencies on the strength of predicted performance.

CitiMortgage originated the 255 underlying first-lien mortgages in 2009, Redwood said. The first prime jumbo RMBS in years has been praised by the industry for beginning to thaw the jumbo market.

“This transaction has broken the ice in the private mortgage securitization market, which has been essentially frozen since 2008,” said Brett Nicholas, chief investment officer of Redwood Trust, in a press statement Wednesday.

Moody’s Investors Service rated the most senior securities in the deal — representing 93.5% of the principal amount — triple-A, Redwood said. But fellow credit-rating agency Standard & Poor’s is warning investors of the possible risks associated with the pool characteristics.

Moody’s assigned ratings from triple-A to double-B 2 on five certificates issued by the Redwood RMBS, formally Sequoia Mortgage Trust 2010-H1. Moody’s expects cumulative net loss of 0.5% on the pool, the credit-rating agency said. The 6.5% subordination on the triple-A certificates is driven by both collateral and structural analysis.

“The transaction is backed by high quality prime loans, employs a highly simplified structure compared to past transactions, has a strong governance mechanism with respect to representation and warranties, has good alignment of interests and benefited from a third party review of every loan in this collateral pool,” Moody’s said in an e-mailed statement.

Standard & Poor’s (S&P) on the other hand said that, while the loans have never been delinquent and the borrowers have a weighted average credit score of 768, the average balance of $932,699 poses a “concentration risk.”

In RMBS ratings criteria released in September 2009, S&P established a 7.5% credit enhancement “as an anchor point” for a typical pool of prime mortgages it will rate triple-A. But the Redwood RMBS bears only 6.5% credit enhancement.

“If 33 average-sized loans or the 19 largest loans in the pool were to default at a 50% recovery (the weighted average original LTV ratio is 56.57%), we estimate that either scenario would result in the complete write-down of all the subordinate classes, which provide 6.50% credit enhancement to the senior class,” S&P said in e-mailed commentary Wednesday.

The pool consists of entirely five-year adjustable-rate mortgages, S&P noted, which means the loans will experience reset risk after five years, when the initial fixed rates become adjustable. Nearly 74% of the loans contain a 10-year interest only period, indicating 74% of the borrowers will experience additional reset when the loans become fully amortizing.

“If mortgage rates rise, property values remain flat, and the extension of credit is limited, we believe borrowers may face difficulties refinancing,” S&P said.

Here's the S&P press release:

NEW YORK (Standard & Poor's) April 28, 2010--As part of its efforts to provide
insight to investors on structured finance transactions, Standard & Poor's
Ratings Services has chosen to comment on Sequoia Mortgage Trust 2010-H1
(Sequoia 2010-H1), a U.S. prime jumbo residential mortgage-backed securities
(RMBS) transaction slated to close today. We chose to comment on this
transaction--which appears to be one of the first private-label U.S. RMBS
transaction containing newly originated loans offered this year--because we
believe the transaction is important to the marketplace and that our views can
add value for investors. Standard & Poor's may, from time to time, choose to
provide our views on structured finance transactions across various asset
types and geographies, even if we did not rate the transaction, if we deem the
transaction important to the market and we believe that our opinions would
provide value to investors.

We have reviewed the public information available on the recently announced
Sequoia 2010-H1 transaction, including the preliminary offering document filed
with the Securities and Exchange Commission (SEC), and have assessed various
credit strengths and risk considerations for the transaction (see below),
which we considered relative to our criteria.

The shifting interest structure of this transaction, which uses subordination
for credit enhancement, contains a seven-year lockout period for principal
prepayments, subject to a "two-times" test (which we describe in more detail
below) and delinquency and realized loss performance tests.


  • 100% of the borrowers have never been delinquent on their mortgage loans;
  • The weighted average original credit score of the borrowers is 768;
  • The weighted average original loan-to-value (LTV) ratio is approximately
    56%, and of the 27% of borrowers that have a simultaneous second-lien
    mortgage, the weighted average combined LTV ratio is under 60%;
  • Over 96% of the properties are owner occupied, and over 76% of the
    mortgage loans are rate/term refinances;
The offering document indicates that the transaction documents will include
the following provisions:

  • The definition of 60-plus-day delinquencies includes modified loans for
    the first 12 months following the modification;
  • The definition of realized losses includes principal forgiveness and
    principal forbearance; and
  • The transaction places an annual cap on administrative and trustee

Concentration Risk:

  • The pool consists of 255 residential mortgage loans with relatively high
    balances (the average stated balance at cutoff is $932,699.35); as such,
    the default of one loan may have a greater impact on overall credit
    enhancement than for a pool that contained a greater number of loans or
    loans with lower current balances.
  • If 33 average-sized loans or the 19 largest loans in the pool were to
    default at a 50% recovery (the weighted average original LTV ratio is
    56.57%), we estimate that either scenario would result in the complete
    write-down of all the subordinate classes, which provide 6.50% credit
    enhancement to the senior class.
Reset Risk:

The pool consists entirely of five-year adjustable-rate mortgage loans, and
nearly 74% of these loans contain 10-year interest-only periods. All borrowers
will experience reset risk after five years, when their initial fixed rates
become adjustable, and 74% of borrowers will experience an additional reset
when their loans become fully amortizing. If mortgage rates rise, property
values remain flat, and the extension of credit is limited, we believe
borrowers may face difficulties refinancing.

Geographic Concentration Risk:

More than 46% of the properties in the collateral pool are in California, and
over 16% are in New York State (more than 12% are in New York City).

The "Two-Times" Test:

The offering document provides that in the event that the percentage of
subordinate classes equals twice its original value, subordinate classes may
begin to receive principal prepayments as early as May 2013, if the
transaction passes certain performance tests. If substantial defaults and
losses occur after the time that subordinate classes begin to receive
principal prepayments, then there may be less credit enhancement available to
the senior classes.

Pre-Offering Review Of Property Valuations:

There may have been differences in property valuations of the collateral
arising from variations in the methods that the sponsors, underwriters, and
third-party agents used, which may affect any potential losses for these


The Sequoia 2010-H1 collateral pool is consistent with the following Standard
& Poor's archetypical pool assumptions for U.S. RMBS (see "Methodology And
Assumptions For Rating U.S. RMBS Prime, Alternative-A, And Subprime Loans
published Sept. 10, 2009):

  • It includes at least 250 loans;
  • It includes loans that are current at the time of issuance;
  • It includes loans with 30-year maturities; and
  • It includes first-lien mortgages.
The collateral pool for Sequoia 2010-H1 is not completely consistent with the
following Standard & Poor's archetypical pool assumptions (in each category, a
value of 100.00% would indicate complete consistency with these criteria):

  • 17.55% of the loans were newly originated (within the past six months);
  • 81.53% of the loans are secured by single-family detached residences;
  • 19.41% of the loans are for home purchase;
  • 26.26% of the loans are fully amortizing;
  • 0.00% of the loans are fixed-rate; 
  • 72.84% of the loans have no simultaneous second liens;
  • 83.75%-93.55% of the loans appear to have FICO scores greater than or
    equal to 725; and
  • 87.35% of the loans appear to have an original combined LTV of less than
    or equal to 75%.
In addition, the collateral pool for Sequoia 2010-H1 is not as geographically
diverse as Standard & Poor's archetypical pool (46% of loans are from
California, and 16% are from New York State).

The collateral pool for Sequoia 2010-H1 may or may not be consistent with the
following Standard & Poor's archetypical pool assumptions (all of the loans in
the pool would need to comply in order to be completely consistent with these

  • Inclusion of loans with full appraisals (with an interior inspection) on
    the secured properties;
  • Inclusion of loans with full underwriting and the verification of
    borrower assets;
  • Inclusion of loans with full documentation and income verification
    through IRS Form 4506T; and
  • Inclusion of loans with a "back-end" (which includes total debt)
    debt-to-income (DTI) ratio of 36%.
For transactions with pools that are completely consistent with our
archetypical pool criteria, credit enhancement at the 'AAA' rating category
would begin at 7.50%.


Historically, Standard & Poor's has published quarterly trends reports
describing collateral characteristics for various product types (see "RMBS
Trends: Amid Volatility, U.S. Third-Quarter 2007 Prime Jumbo Securitization
Volume Is Slightly Down
," published Feb. 4, 2008).

In our view, the collateral pool for Sequoia 2010-H1 appears to differ from
historical prime jumbo collateral in the following ways:

  • The average loan balance is higher; 
  • The percentage of interest-only loans is higher;
  • The percentage of loans for home purchases is lower;
  • The weighted average FICO is higher; and
  • The weighted average original LTV is lower.

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