DBRS Morningstar Finalizes Provisional Ratings on MFA 2020-NQM1 Trust

DBRS, Inc. (DBRS Morningstar) finalized its provisional ratings on the following Mortgage Pass-Through Certificates, Series 2020-NQM1 (the Certificates) issued by MFA 2020-NQM1 Trust (MFA 2020-NQM1):

-- $276.6 million Class A-1 at AAA (sf)
-- $25.4 million Class A-2 at AA (sf)
-- $41.6 million Class A-3 at A (sf)
-- $18.0 million Class M-1 at BBB (sf)
-- $11.1 million Class B-1 at BB (sf)
-- $8.2 million Class B-2 at B (sf)

Other than the specified classes above, DBRS Morningstar does not rate any other classes in this transaction.

The AAA (sf) rating on the Class A-1 Certificates reflects 29.25% of credit enhancement provided by subordinate certificates. The AA (sf), A (sf), BBB (sf), BB (sf), and B (sf) ratings reflect 22.75%, 12.10%, 7.50%, 4.65%, and 2.55% of credit enhancement, respectively.

This transaction is a securitization of a portfolio of fixed- and adjustable-rate nonprime first-lien residential mortgages funded by the issuance of the Mortgage Pass-Through Certificates, Series 2020-NQM1 (the Certificates). The Certificates are backed by 1,168 mortgage loans with a total principal balance of $390,979,926 as of the Cut-Off Date (July 31, 2020).

Subsequent to the issuance of the related Presale Report, there were minimal loan drops and balance updates. The Certificates are backed by 1,177 mortgage loans with a total principal balance of $393,083,403 in the Presale Report. Unless specified otherwise, all the statistics regarding the mortgage loans in the related Rating Report are based on the Presale Report balance.

Citadel Servicing Corporation (CSC) is the Originator and Servicer for all loans in this pool.

CSC has three programs under which it originates loans. The Non-Prime and Maggi Plus (Maggi+) products are CSC’s core mortgage programs with Maggi+ aimed at higher credit profiles. CSC’s Outside Dodd-Frank products include loans exempt from the Consumer Financial Protection Bureau’s (CFPB) rules.

Although the applicable mortgage loans were originated to satisfy the CFPB Ability-to-Repay (ATR) rules, they were made to borrowers who generally do not qualify for agency, government, or private-label nonagency prime jumbo products for various reasons. In accordance with the Qualified Mortgage (QM)/ATR rules, 66.0% of the loans are designated as non-QM. Approximately 34.0% of the loans are made to investors for business purposes or foreign nationals, which are not subject to the QM/ATR rules.

MFA Financial, Inc., the Sponsor, directly or indirectly through a majority-owned affiliate, will retain an eligible horizontal residual interest consisting of the Class B-3 and XS Certificates representing at least 5% of the Certificates to satisfy the credit risk-retention requirements under Section 15G of the Securities Exchange Act of 1934 and the regulations promulgated thereunder.

On or after the earlier of (1) the distribution date in August 2023 or (2) the date when the aggregate unpaid principal balance of the mortgage loans is reduced to 30% of the Cut-Off Date balance, MFRA NQM Depositor, LLC (the Depositor), at its option, may redeem all of the outstanding Certificates at a price equal to the class balances of the related Certificates plus accrued and unpaid interest, including any Cap Carryover Amounts and any pre-closing deferred amounts. After such purchase, the Depositor must complete a qualified liquidation, which requires (1) a complete liquidation of assets within the trust and (2) proceeds to be distributed to the appropriate holders of regular or residual interests.

Different from most non-QM transactions, the Servicer will not fund advances of delinquent principal and interest (P&I) on any mortgage. However, the Servicer is obligated to make advances in respect of taxes, insurance premiums, and reasonable costs incurred in the course of servicing and disposing of properties.

In contrast with other non-QM transactions, which employ a fixed coupon for senior bonds (Class A-1, A-2, and A-3), MFA 2020-NQM1's senior bonds are subject to a rate update starting on the distribution date in September 2024. From this distribution date forward, the Class A-1, A-2, and A-3 bonds are subject to a step-up rate (a yearly rate equal to 1.0%).

The transaction employs a sequential-pay cash flow structure with a pro rata principal distribution among the senior tranches. Principal proceeds can be used to cover interest shortfalls on the Certificates as the more senior outstanding Certificates are paid in full. Furthermore, excess spread can be used to cover realized losses first before being allocated to unpaid Cap Carryover Amounts due to Class A-1 down to Class B-1.

CORONAVIRUS DISEASE (COVID-19) IMPACT
The coronavirus pandemic and the resulting isolation measures have caused an economic contraction, leading to sharp increases in unemployment rates and income reductions for many consumers. DBRS Morningstar anticipates that delinquencies may continue to rise in the coming months for many residential mortgage-backed security (RMBS) asset classes, some meaningfully.

The non-QM sector is a traditional RMBS asset class that consists of securitizations backed by pools of residential home loans that may fall outside of the CFPB’s ATR rules, which became effective on January 10, 2014. Non-QM loans encompass the entire credit spectrum. They range from high-FICO, high-income borrowers who opt for interest-only or higher debt-to-income ratio mortgages, to near-prime debtors who have had certain derogatory pay histories but were cured more than two years ago, to nonprime borrowers whose credit events were only recently cleared, among others. In addition, some originators offer alternative documentation or bank statement underwriting to self-employed borrowers in lieu of verifying income with Form W-2, Wage and Tax Statements, or tax returns. Finally, foreign nationals and real estate investor programs, while not necessarily non-QM in nature, are often included in non-QM pools.

As a result of the coronavirus, DBRS Morningstar expects increased delinquencies, loans on forbearance plans, and a potential near-term decline in the values of the mortgaged properties. Such deteriorations may adversely affect borrowers’ ability to make monthly payments, refinance their loans, or sell properties in an amount sufficient to repay the outstanding balance of their loans.

In connection with the economic stress assumed under its moderate scenario (see “Global Macroeconomic Scenarios: July Update,” published on July 22, 2020), for the non-QM asset class, DBRS Morningstar applies more severe market value decline (MVD) assumptions across all rating categories than it previously used. DBRS Morningstar derived such MVD assumptions through a fundamental home price approach based on the forecast unemployment rates and GDP growth outlined in the moderate scenario. In addition, for pools with loans on forbearance plans, DBRS Morningstar may assume higher loss expectations above and beyond the coronavirus assumptions. Such assumptions translate to higher expected losses on the collateral pool and correspondingly higher credit enhancement.

In the non-QM asset class, while the full effect of the coronavirus may not occur until a few performance cycles later, DBRS Morningstar generally believes loans originated to (1) borrowers with recent credit events, (2) self-employed borrowers, or (3) higher loan-to-value (LTV) ratio borrowers may be more sensitive to economic hardships resulting from higher unemployment rates and lower incomes. Borrowers with prior credit events have exhibited difficulties in fulfilling payment obligations in the past and may revert to spotty payment patterns in the near term. Self-employed borrowers are potentially exposed to more volatile income sources, which could lead to reduced cash flows generated from their businesses. Higher LTV borrowers with lower equity in their properties generally have fewer refinance opportunities and therefore slower prepayments. In addition, certain pools with elevated geographic concentrations in densely populated urban metropolitan statistical areas may experience additional stress from extended lockdown periods and the slowdown of the economy.

In addition, for this transaction, as permitted by the Coronavirus Aid, Relief, and Economic Security Act, signed into law on March 27, 2020, 6.9% of the borrowers have been granted forbearance or deferral plans because of financial hardship related to coronavirus. These forbearance plans allow temporary payment holidays, followed by repayment once the forbearance period ends.

For this deal, DBRS Morningstar applied additional assumptions to evaluate the impact of potential cash flow disruptions on the rated tranches, stemming from (1) lower P&I collections and (2) no servicing advances on delinquent P&I. These assumptions include:
(1) Increasing delinquencies for the AAA (sf) and AA (sf) rating levels for the first 12 months,
(2) Increasing delinquencies for the A (sf) and below rating levels for the first nine months,
(3) Applying no voluntary prepayments for the AAA (sf) and AA (sf) rating levels for the first 12 months, and
(4) Delaying the receipt of liquidation proceeds for the AAA (sf) and AA (sf) rating levels for the first 12 months.

For more information regarding rating methodologies and the coronavirus, please see the following DBRS Morningstar press releases and commentary: "DBRS Morningstar Provides Update on Rating Methodologies in Light of Measures to Contain Coronavirus Disease (COVID-19)," dated March 12, 2020; "DBRS Morningstar Global Structured Finance Rating Methodologies and Coronavirus Disease (COVID-19)," dated March 20, 2020; and “Global Macroeconomic Scenarios: July Update,” dated July 22, 2020.

The ratings reflect transactional strengths that include the following:

-- Satisfactory third-party due-diligence review.
-- Robust loan attributes and pool composition.
-- Improved underwriting standards.
-- Compliance with the ATR rules.

The transaction also includes the following challenges:

-- Borrowers on forbearance plans.
-- No servicer advances of delinquent P&I.
-- Representations and warranties framework and providers.
-- Weaker documentation types.
-- Foreign borrowers with no FICO score.
-- Nonprime, non-QM, and investor loans.

The full description of the strengths, challenges, and mitigating factors is detailed in the related rating report.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is RMBS Insight 1.3: U.S. Residential Mortgage-Backed Securities Model and Rating Methodology (April 1, 2020), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process.

The full report providing additional analytical detail is available by clicking on the link under Related Documents below or by contacting us at [email protected].

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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