Some believe that the growth in the PLS market is
more of a matter of when than if. To accelerate and
guide the process, the following three themes must
occur. First, the supply of underlying assets must be
sufficiently large and viable to support PLS. If lenders
adjust their perspective they will embrace an attractive
market just waiting for them. Second, the structures
of PLS deals must be specifically tailored to today’s
environment to bring trust back into the market. Third,
all counterparties must fully leverage each other’s
strengths to maximize performance, which will ultimately drive more volume.
Going to market
To establish a strong PLS market you need a lot of loans.
Currently many creditworthy loans that fall outside the
government-backed programs aren’t being booked.
One reason that volumes of non-agency loans have
been so light is that many lenders and investors are
trying to model what they think will perform well and
then finding borrowers who fit their programs. A lot of
people want access to credit, but in reality there just
is not much demand for loans with well-above market
interest rates accompanied by low LTVs.
To reverse this process the PLS industry must first
identify a larger market of borrowers who deserve and
want credit and then tailor lending programs to them
with complementary servicing solutions in mind. By
applying nonstandard but reasonable and proven
credit metrics such as residual income to these potential borrower populations, the supply of securitizable
loans can increase dramatically.
More attention and regulatory coordination should
be focused on developing tightly underwritten
products for non-agency borrowers in a disciplined
manner. This will have a positive impact on the PLS
market, the housing industry and, ultimately, the
Structuring PLS deals going forward is a broad topic
made up of many complex elements, so let’s focus
on alignment of interests and transparency — two
PLS issues greatly affected by the role of the servicer.
Many precrisis PLS deals did not effectively designate
authority to manage servicing decisions. Numerous
conflict-of-interest issues arose when loans went delinquent and that led to nasty legal battles between
servicers, bankers, originators, investors — including
tranche warfare between multiple investors in the
same securities — and other players.
Naturally, in the wake of those battles, alignment
of interest has been a top priority for all counterparties involved in new securitizations. No one claims
to have a silver-bullet answer that successfully addresses everyone’s concerns, but simply putting a
25 basis point servicing fee strip on all performing deals is definitely not the answer. Each security
deserves a customized servicer compensation solution based on the specific collateral and the goals of
In addition, a consistent waterfall of loss-mitigation
procedures must be agreed upon in advance of the
security and maintained. Odd situations happen
more often than many investors believe, and servicers
should be able to retain some degree of flexibility
within the structure to use proprietary strategies
without fear of being sued at a later date. Various
success-based fees can be added to deals that benefit each party, but they must be customized to match
the security and the collateral.
In terms of deal transparency, the growth of nonperforming and reperforming whole-loan markets
has demonstrated just how much of a positive effect
increased transparency could have on the PLS market. Whole-loan investors own each borrower’s loan
Ed Fay is the founder and chief executive officer of Chicago-based Fay Servicing, a special servicer that
specializes in distressed and at-risk residential mortgages for banking institutions and alternative real estate
investors. Reach Fay at firstname.lastname@example.org, or visit fayservicing.com for more information.
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