Realized losses declared on private residential mortgage-backed securities (RMBS) are projected to rise substantially in the coming months, according to a recent analysis by R&R Consulting, a credit rating and valuation firm in New York.
On the securities performing at December 2011 – approximately $1.42 trillion – R&R estimates the amount of additional losses likely to materialize is $300 billion, with one-third concentrated in 10 arranger names including Countrywide, Morgan Stanley and JP Morgan. About 17,000 tranches, or 34% of the universe analyzed by R&R, may lose up to 83% of their remaining principal.
In addition, R&R estimates that approximately $175 billion of losses already incurred on the loans have not yet been allocated to the bonds in the related transactions. Failure to allocate realized loan losses could distort the valuation of related RMBS tranches.
‘Our findings were very disturbing – much higher than what we had expected to see,’ says Ann Rutledge, founding principal at R&R Consulting. ‘Investors should be concerned about receiving inaccurate bond performance information and paying unnecessary fees.’
Rutledge warns that subordinated securities in the RMBS with probable future losses should be written down by such losses, but instead may be continuing to receive interest owed to more senior tranches. This could mean that servicers are earning fees against loans that have already been liquidated, which also reduces the amount of cash to pay senior bondholders.Â Â
‘The system for mortgage-backed securities is still fundamentally broken,’ Rutledge says. ‘All the loose ends need to be identified and knit together into a well-functioning system before investors can feel comfortable investing in RMBS once more.’