Fitch Ratings announced it has finalized its criteria for analyzing loans securing U.S. residential mortgage-backed securities (RMBS) under the new qualified mortgage (QM) and ability-to-repay rule recently adopted by the Consumer Financial Protection Bureau (CFPB).
Fitch developed assumptions with respect to the probability of challenges to the rule or a mortgage’s QM status, as well as the potential costs or damages.
"We expect some defaulted borrowers will likely challenge the Rule, but a lack of legal precedent could make the first few cases high profile and prone to significant legal costs," said senior director Suzanne Mistretta.
The announcement commented, "Fitch will make upward adjustments to its credit enhancement calculations if the originator designates the loan as higher priced QM (HPQM) or non-QM. Loans identified by the lender and confirmed by third party due diligence as safe harbor QM (SHQM) will not receive an adjustment."
Fitch makes a few assumptions regarding how to handle new loans. First, Fitch will consider the lifetime probability of default derived from Fitch's mortgage loan loss model. Additionally, the population is narrowed further to indicate only those borrowers who are likely to default within five years of origination. Finally, a state’s foreclosure process, either judicial or non-judicial, plays a factor.
Mistretta noted, "Lower credit quality pools will see a larger effect on credit enhancement relative to higher credit quality pools primarily due to their higher probability of default and smaller loan balances."
Fitch will make mark a key difference between structures—those that provide for expenses to be paid from available funds, and those that deduct expenses from the mortgage pool’s net weighted average coupon (Net WAC).
The announcement clarified, "Where expenses are absorbed by the pool's Net WAC and the note rate is capped at the Net WAC, Fitch will not adjust its loss expectation for the pool. Although expenses are borne by both senior and subordinated investors, this provision does not affect the trust's ability to pay contractual amounts due."
"The loan designation and determination of potential challenges and legal costs and damages will be highly dependent on the results of Fitch's review of the originator's/aggregator's underwriting guidelines and origination processes," the release added.