U.S. RMBS: Non-QM Performance Continues to Strengthen as Issuance Grows and Call Activity Remains Apace

DBRS Morningstar released a commentary titled “U.S. RMBS: Non-QM Performance Continues to Strengthen as Issuance Grows and Call Activity Remains Apace.”

The credit performance of residential mortgage-backed securities (RMBS) backed by non-Qualified Mortgage (non-QM) loans rated by DBRS, Inc. (DBRS Morningstar) continued to strengthen in 2021, with the share of the borrowers who became delinquent on their mortgage payments declining steadily from its mid-2020 peak of 19.8% to 6.5% in August 2021. The share of seriously delinquent borrowers (those who were delinquent for 60 or more days under the Mortgage Bankers Association method) also declined from the peak of 14.3% to 4.7% during the same period. The drop in delinquencies is likely due to the improving economy with lower unemployment rates and increasing home prices and servicers' efforts to find options for borrowers to become current again.

Although recent performance has been consistently improving, a few challenges remain as the pace of economic recovery continues to depend on the evolution of the Coronavirus Disease (COVID-19) pandemic's timing and magnitude and the effectiveness of the government's response. The still-notable number of delinquent borrowers, coupled with the limited servicer advances of delinquent principal and interest, reduces cash collections and will continue to pose challenges to non-QM loan performance in 2021 and early 2022 until servicers resolve the delinquencies. However, the increased credit enhancement and still-robust amount of excess interest available to cover the losses will help cushion the impact. The exact impact to bondholders will likely be deal- and bond-specific.

Despite the challenges noted above, DBRS Morningstar continues to believe that most delinquencies in the non-QM sector will be resolved over time with a modest increase in collateral losses, barring a sharp drop in home prices or a sudden deterioration of the economy. Borrower income that temporarily dropped or was disrupted during the pandemic-related decline in economic activity will likely continue to recover. Moreover, many non-QM borrowers continue to maintain significant equity, which bolsters their incentive to preserve homeownership and helps to cushion losses when properties backing seriously delinquent loans are sold off. The equity has likely increased since loan origination for most non-QM borrowers due to robust home price growth and principal payments and curtailments.

In addition to performance trends, we discuss the following in the commentary:
-- Issuance volume in 2021 and factors that will keep both origination and issuance apace in 2021 and early 2022.
-- The credit quality of DBRS Morningstar-rated new issue non-QM RMBS.
-- Transaction structures and how they compare against those from 2020.
-- The increase in collapsed (called) non-QM deals during 2021.