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Sub-prime mortgage-backed securities hit record arrears highs

UK adverse Residential Mortgage Backed Securities arrears figures have hit record highs of 25 per cent.

Standard & Poor’s rating agency revealed total delinquencies within the nonconforming RMBS transactions increased to record levels, from 23.3 per cent in Q2 2008 to 25 per cent in Q3. S&P says losses will continue to accelerate into 2009.

Delinquencies of more than 90 days now stand at 13.1 per cent, and the stock of repossession cases rose to 2.8 per cent, up from 1.5 per cent a year ago.

The ratings agency says the continued high spread between Libor and base rate will put pressure on excess spread in some nonconforming RMBS transactions, where there is unhedged basis risk.

The prepayment index dropped markedly to 21.2% in Q3 from 24.0% in Q2. The effective closure of the market for new nonconforming lending leaves only those borrowers with the cleanest payment histories able to seek refinancing among mainstream prime lenders. Even in this sector, lending criteria have been tightened and the number of available products has been cut. We expect the downward trend in prepayment rates to persist until mortgage credit becomes more widely available once again.

It also found that higher losses are appearing earlier in the life of some transactions. Average losses for the 2007 vintage of transactions are trending higher than for all other vintages in relative terms, while the 2005 vintage continues to exhibit the highest cumulative losses to date.

Rising numbers of foreclosures and declining house prices are likely to cause a continued acceleration in losses over the coming months.

The report into adverse RMBS noted that Lehman Brothers acted as participants in the operation of several U.K. nonconforming structured finance transactions. In these cases, the credit risk on the rated notes may be linked to Lehman’s credit risk – as a result of the bankruptcy, S&P has put 177 tranches linked to Lehman’s on ratings watch. It has also put 15 tranches not related to Lehman’s on watch and has downgraded 17.

At the end of Q3 2008, the total outstanding balance of U.K. nonconforming RMBS notes that S&P rated was £37.7bn, up from £32.3bn at the end of Q2. The substantial increase was due to two large transactions that closed in the quarter: Bowler Finance PLC and Leek Finance Number Twenty PLC, with a combined issuance of £5 billion.

S&P says: “The outlook for the U.K. economy remains negative. Falling house prices, declining GDP, constrained availability of mortgage credit, and rising unemployment are some of the factors contributing to this outlook.

“Taking out a new mortgage or refinancing as a nonconforming borrower is now almost impossible, given the effective withdrawal of specialist
lenders and a reluctance by others to lend to borrowers with any blemish on their credit history.”


On the defensive

Warren Buffett says: “Be fearful when others are greedy and be greedy when others are fearful”. In October, he put this into practice, buying US equities for his personal account and predicting that “the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up”. There are several reasons why now might be a good time to revisit the equity market.


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