It was all the rage before coronavirus.
Mortgage lenders were funding deals that allowed everything from just listing liquid assets on the mortgage application with employment information being left blank. Another was 12 months of bank statement deposits as income proof alternative to tax returns. And, yet another example was bank and stock accounts being aggressively reformulated as high monthly returns to claim as monthly qualifying income.
Ten weeks ago, with the full force of COVID-19 converging on America, non-QM institutional buyers of these funded loans lost their nerve. They panicked. No sale was the sound! Just like that, there was nothing but a graveyard of unfunded risky mortgages. Across the country, perhaps tens of thousands of purchases and refinances about to fund, all died before arrival.
The non-QM market froze in response to COVID-19 and all of the economic ripples from lost jobs to shuttered businesses to death all around us. “Lenders didn’t know how to deal with risk,” said Guy Cecala, CEO and publisher of Inside Mortgage Finance.
Non-QM mortgages accounted for just 2% of the $2.3 trillion mortgages funded in 2019, according to Cecala.
S&P analyzed 85 non-QM securitization pools from February 2017 through February 2020 indicating that 50% of those non-QM loans reside in California. Those loans were characterized by lower FICO scores, alternative income documentation and self-employed borrowers.
This week the Mortgage Bankers Association reported 8.46% of all mortgages in forbearance.
Through the end of February non-QM delinquency data (pre-COVID-19) was just 4%, according to Jack Kahan, senior managing director, Kroll Bond Rating Agency. Delinquency is defined as at least 30 days mortgage payment past due. “Through the end of April non-QM delinquencies are running 20%,” said Kahan. Wow!
No distinction is made about forbearance borrowers vs truly delinquent borrowers.
What lenders, investors and bond rating agencies don’t know is the level of struggling non-QM borrowers that can’t pay and which are able to pay but won’t pay since forbearance is an option without penalty of late charges or bad credit marks. Most all non-QM lenders have offered at 90-day mortgage payment forbearance even though they fall outside of the Cares Act in which Congress passed-mandating up to a 12-month mortgage payment forbearance for Fannie, Freddie, FHA and VA mortgage holders.
Few saw the non-QM comeback this quickly. Thirty-one of 33 secondary mortgage market executives concluded that the non-QM market was “largely dead for a year or more” in a May survey conducted by industry researcher Tom LaMalfa.
Citi research analyst Roger Ashworth thinks there is a plethora of reasons for the non-QM market to come back in addition to tighter non-QM lending standards. “We are past peak unemployment. Employment will improve,” said Ashworth. “Home supply is low. Demand is increasing to pre-coronavirus levels. Pandemic is placing a premium on maintaining your shelter and space.”
Non-QM will help the Fannie Mae rejects. Several people I interviewed think Fannie’s current obsession with proving self-employed borrowers’ have six months cash reserves, ongoing business deposits that are consistent with pre-coronavirus deposits and current income levels are similar to previous levels will be credit denied.
Non-QM includes expanded prime which means the loan falls outside of the Fannie credit box but does not extend to alternative income sources like bank statements instead of tax returns. There are plenty of high-quality self-employed borrowers being turned down from Fannie Mae type mortgages because of their self-employment temporary income disruption or decrease.
Non-QM standards are much more conservative 10 weeks later.
A sampling of lenders finds mortgage rates up a good two points or more. Previously, you might find non-QM in the 4% range, and now it is in the 6% or even higher range. Down payments are now minimally 20% whereas it was 10% ten short weeks ago.
Required middle FICO credit scores have gone from a minimum of 580 to 680. Cash-out has gone from 80% maximum loan-to-value to 70% plus a haircut on the FICO score now needing to be 740 whereas it was 720.
That debt-service-coverage-ratio rental property formula that got you in with rents being just 80% of the total mortgage payment now requires the rents to be 115% of the mortgage payment. For example, if the payment was $3,000, the rents only had to be $2,400. Now, at 115% your rents have to be $3,450 to qualify.
Caution may still be in the wind. “Although there appears to be some non-QM ratings activities, we don’t necessarily think that marks the return of the non-QM market,” said Scott Anderson of DBRS Morningstar Credit Ratings.
Jeff Lazerson - Mortgage Columnist since 2011