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By larry Barnett
Co-founder and principal
BlackBox Logic LLC
The Value of Evaluation
Improved bond valuation methodology benefits mortgage bankers and correspondents
Much has been written about he cause of the meltdown in the mortgage-backed securities (MBS) market. Some argue that
bond investors and portfolio analysts
need enhanced looks at downstream
loan information to improve bond valuation methodologies. Related to this
discussion is the need for an improved
feedback loop between the initial under writing criterion and the subsequent
performance of the underlying mortgages. Mortgage bankers and correspondent lenders — whose companies
may be servicing these loans — should
keep themselves educated and up-to-date about proper bond valuation analysis, as this ultimately will affect their
companies’ bottom lines.
It’s now become commonplace to replace the data at the deal level — data
that initially was the foundation for
bond valuations — with an in-depth
analysis that begins with reviewing
loan-level attributes. By incorporating
detailed data on individual mortgages,
more accurate pricing will evolve for securities without liquid markets.
This accuracy, however, will be contingent on correlating the initial and updated views of underwriting attributes
that describe borrowers’ credit profiles
and property characteristics with mortgage delinquencies and foreclosures.
Mortgage professionals should know
that the core of this bond valuation
analysis concerns the calculation of individual scheduled and unscheduled
mortgage payments made by a given
borrower into a residential MBS trust.
as transparency improves, the aggregation of information on unscheduled cash
flows related to voluntary mortgage prepayments, delinquencies and loss se-verities caused by the sale of distressed
assets — and the timing of those losses
— is enhanced, as well. This in turn
leads to more accurate estimates of future cash flows, improving bond valuations and enhancing the feedback loop
between the initial mortgage underwriting and loan performance.
a recent advancement in the calculation of these future unscheduled cash
flows comes from progress being made
in determining the amount of principal
and interest that have been advanced
to the trust by the mortgage servicer.
Thus, identifying loans modified by the
servicer in an attempt to keep struggling borrowers current on their payments is a key component in the analysis of servicing advances and their subsequent reimbursements.
The estimation of servicer advances
at the loan level can make bond valu-
ations more accurate, while also im-
proving models that tie the initial
underwriting to downstream perfor-
mance. Mortgage bankers and cor-
respondent lenders who know how to
properly evaluate — and use — their
businesses’ data can add lift to even
the most junior and senior bonds in a
given mortgage trust.
to incorporate data into relevant models to predict cash flows.
analyze and evaluate
Servicer advances have become a significant tool in predicting future losses
on individual mortgages and unscheduled cash flows coming into trusts.
Methods for success
In addition to merely keeping themselves well-informed about the functioning of the MBS market, bankers and
correspondent lenders should have a
clear idea of how advancing loans function within their individual organizations. With that in mind, consider the
following business scenario for advancing loans.
“The estimation of servicer advances at
the loan level can make bond valuations
more accurate, while also improving
models that tie the initial underwriting
to downstream performance.”
These cash flows can be used by mortgage originators to take a longer and
more in-depth look at servicer performance, as well as the effectiveness of
mortgage under writing.
Of course, any analysis of these factors should be in addition to more traditional methods of predicting loss sever-ities and calculating future cash flows.
This analysis can be vital, as servicers
are obligated to advance timely principal and interest into a given trust for
borrowers who are unable or unwilling
to make their monthly payments.
In general, however, the servicer
continues to advance until they consider the fact that proceeds from the
eventual sale of a distressed asset
will not cover the advanced monthly
principal and interest. In other words,
stopped advances are a window into
loss estimations made by the servicers themselves.
The counterbalancing number also
is of interest to investors, namely the
amount of reimbursements that the
servicer receives from the trust to pay
themselves back for these cash outlays.
This number is taken off the top and is
not remitted to the bond investors when
the property is sold as a real estate
owned (REO) property or modified to
provide troubled borrowers some relief.
Fortunately, with a fair amount of
data manipulation, a user of loan-level
data sets can identify the loans that
were advanced, giving them the ability
Let’s say that a group of loans is
delinquent and, without remediation,
would eventually move down the dis-
tressed-asset curve. That is, borrowers
would move from being severely delin-
quent to foreclosure and then to REO.
larry Barnett is a co-founder and principal of
BlackBox Logic LLC. Barnett is one of the chief
data architects and is responsible for long-term strategies at BlackBox. He is well-known
as an expert in securitization, secondary
market operations and bond administration.
Before working at Black Box, Barnett was the
officer in charge of Securities Trading Operations at Fannie Mae, where he was responsible
for the MBS Operation and Bond administration. Reach him at firstname.lastname@example.org.