We previously noted that the recent surge in bank deposits, that is related to rising risk aversion associated with the onset of the Covid-19 crisis, serves to support bank investment in agency Mortgage Backed Securities (MBS). A look at recent Federal Reserve Board data reveals that growing MBS demand is not just the result of greater deposits, but also is due to a desire on the part of depository institutions to reduce risk in the mortgage space.
Just-released data from Freddie Mac is the first clear signal of distress in the conforming mortgage market. Data at the pool level for April 2020 showed a record high share of 30-day delinquencies (dq’s) of 3.735% for pools backed by 30 year mortgages. This data set goes back only to January 2011, so to get a reference to the Global Financial Crisis (GFC) we calculated the 1-month dq for 30 year mortgages from the Freddie Mac Loan Performance data set which goes back to 1999, although the most recent observation is June 2019. This dataset consists of a large sample of Freddie Mac loans but is not the whole universe. During the period of overlap there is a clear correlation between the two series. Finally, we overlay the insured unemployment rate to obtain a clear connection between the shock to the labor market from the Covid-19 virus and borrowers who have missed their mortgage payment.
As noted in an earlier post we discussed how the GSE’s have been sharing credit risk with private investors through the Credit Risk Transfer (CRT) market. At that time, we discussed how losses tended to grow over time, and noted the significant geographical variation in default rates by state, reflecting local economic conditions. Another consideration noted along these lines is underwriting characteristics. This impact is particularly notable when comparing the performance of loans for lower-credit quality borrowers to others. The chart below looks at the relative performance in CRT high-LTV reference pools between those with FICO scores less and equal to 680 and those greater than that score:
During the 2008 global financial crisis, the agency multifamily CMBS (commercial mortgage backed securities) and the RMBS (residential mortgage backed securities) markets performed differently as measured by delinquency rates. For example, at the peak of the financial crisis in Feb. 2010, single family Fannie Mae loans had a 90+ day delinquency rate of 5.6% in Feb. 2010, compared with their multifamily 60+ day delinquency rate of just 0.8% in Jun. 2010. However, the historical performance cannot guarantee the same relationship will hold during the current Coronavirus pandemic. The huge surge in unemployment currently being experienced will fall equally on renters and homeowners alike. The CARES act provides forbearance to households with mortgages, but there is no such broad program for renters.
The Covid-19 Virus has clearly had a devastating impact on the jobs market in the US. Over the past four weeks, over 22 million people have filed for unemployment claims. This number has grabbed the headlines, but to get a more accurate sense of perspective on the problem it is best to look not at new claims, but instead at the stock of people who are receiving benefits, and then scale this by the size of the labor force. This concept is referred to as the “insured unemployment rate”, which was first reported in 1971. This figure reached an all-time high of 8.2% in the week ending April 4, greater than the peak during the global financial crisis of about 5% and the all-time peak near 7% in the mid-1970’s.
Late on the sixth business-day of every month, Ginnie Mae releases its updated loan tape that allows us to calculate the delinquency rates for its book of mortgages. We received the most recent tape this week, reflecting the mortgage payment activities in March. As most payments are due in the first half of the month, we did not expect to see a very large impact as the scale of the crisis was not fully recognized until the second half of the month. To check for traces of such an impact, we looked at short-term (30day) delinquencies (DQ’s) for loans serviced by nonbanks in the FHA program. We chose FHA because this program tends to support lower-income households, which are more likely to be impacted by the virus. We chose nonbanks because they tend to have somewhat looser lending standards than banks, and consequently higher delinquency rates.
The Credit Risk Transfer (CRT) market was launched in 2013 by the GSE’s to help protect taxpayers from credit risk (risk of borrower nonpayment) by sharing mortgage losses with private investors. The market has grown substantially since that time, with the outstanding balance of reference loans reaching over $2 trillion at the end of 2019. Over this time, investors have largely been rewarded, as home prices have continued to rise and labor market conditions have been robust. Chart 1 shows these for the sixteen most recent high loan-to-value (LTV) Fannie Mae deals from their CRT program Connecticut Avenue Securities (CAS).
1. Cumulative Default Rate for CAS Securities