Home mortgage arrears drop in US, plummet in Spain

US economic growth has lowered arrears in residential mortgaged-backed securities (RMBS), Moody’s Investors Service said in a sector comment. The rating agency considers that GDP growth and servicers’ loss mitigation activities will also support the performance of legacy subprime RMBS in 2015.

In Europe, stabilising unemployment - albeit at high levels in some countries - will help to steady collateral performance, as prime RMBS have seen double-digit decreases in severe arrears of more than 90 days.

Severe arrears in this sector have plunged by over onethird (34.4%) in Spain year-on-year, by 18.8% in the UK, 10.7% in Germany and 16.1% in Portugal.

The rating agency’s research shows that the US (Aaa, stable) strengthening economy will improve the performance of legacy private-label RMBS in 2015. The credit quality of new private-label RMBS will remain strong, and the risk of occasional cash flow disruptions will be lower than in 2014. In Moody’s opinion, the credit performance of prime jumbo, subprime and Alternative-A RMBS will slightly improve.

In Europe, stable unemployment, low interest rates and rising house prices will underpin performance in 2015. In the euro area, Moody’s forecast GDP will rise by 1.0% in 2015 and 1.5% in 2016, respectively, from 0.8% in 2014. The rating agency anticipates that a strong economic recovery and low interest rates will boost UK RMBS performance, including that of non-conforming deals. Increasing employment will strengthen the financial position of some borrowers in the UK (Aa1, stable), the Netherlands (Aaa, stable) and Germany (Aaa, stable). In Spain, unemployment will decrease, but from a very high level. Spanish collateral performance is stabilising and arrears will continue to decrease.

European regulators are focusing on borrower affordability and leading lenders to maintain underwriting criteria.

Regulators are restricting the portion of “risky” assets on banks’ balance sheets in the UK and Ireland. In the US, regulatory guidelines and scrutiny will help servicers to improve their processes regarding loan modifications and related borrower contact, in Moody’s view.

Underwriting standards in the UK and the Netherlands are tighter than pre-crisis levels, which will improve asset quality. In the US, servicers’ loss mitigation activities will support legacy subprime RMBS.

The credit quality of new US private-label RMBS will remain strong, supported by improved underwriting standards. The credit quality of 2015-vintage US RMBS will also continue to benefit from thorough third-party reviews and from risk retention rules that will come into effect in late October 2015.

In Australia (Aaa, stable), the credit quality of new RMBS collateral will slip, as the underlying loans are being underwritten at historically low interest rates during a period of rapidly rising house prices. However, overall performance will stay strong with low delinquency rates, but persistent underemployment jeopardises performance.

RMBS performance in Japan (A1, stable) also remained steady thanks to low unemployment and tight lending criteria. In Moody’s view, defaults will remain low, following the modest economic recovery. Moody’s expects house prices to rise in 2015 and beyond. The labour market is quite strong and the unemployment rate will remain low at 3.0% to 4.0% in 2015. The combination of these factors will support collateral performance.

Competition among lenders will keep interest rates low, especially with the Bank of Japan’s aggressive quantitative easing. Strong borrower credit profiles and tight lending criteria are helping to curtail performance deterioration.