Fitch: U.S. RMBS Rep & Warranties Have ‘Room for Improvement

Fitch Ratings, New York, said some new U.S. residential mortgage-backed securities deals are coming to market of late with rep and warranty frameworks that are showing signs of slippage at a time when they should be taking on greater importance.

Fitch Managing Director Roelof Slump said the agency has made R&W frameworks a key area of focus for its rated RMBS since the financial crisis. But he noted as new issuers have entered the market, Fitch has seen an increase in variations to the ‘full’ R&W and enforcement framework that many issuers adhered to in the years immediately following the crisis.

The report said against the backdrop of high loan origination standards, most frameworks established post-crisis have included enforcement mechanisms that are effective in identifying breaches and include binding arbitration to protect investors. Generally strong R&Ws in new RMBS have worked well to complement high transaction due diligence and strong loan credit quality. However, some recent transactions contain R&W weaknesses, which could leave investors less protected if mortgage defaults were to increase.

“While R&W and enforcement frameworks today are generally still stronger than pre-crisis, a number of common weaknesses remain that could affect the investors ability to enforce R&Ws,” the report said. “These weaknesses can include undefined materiality clauses, limited reporting, obstacles to bondholder communication, control by the issuer, and underwriting exception and guideline tracking.”

“Balancing issuer repurchase liability concerns with the interests of investors remains a challenge even 10 years after the crisis,” said Fitch Senior Director Suzanne Mistretta. “Increased loss protection has been one way Fitch has tried to address the weaknesses,”. Because the loss model projections assume breaches are not repurchased, the added adjustment for R&W weaknesses that Fitch applies when reviewing frameworks should help protect investors against misrepresentation risk greater than that observed historically.”