Mortgages using alternative documentation like bank statements for underwriting performed stronger than expected, but uncertainty remains about their default rates in stressed environments, Fitch Ratings said.
Over the past two years, non-qualified mortgage volume shifted away from borrowers who did not fit the Fannie Mae and Freddie Mac credit box or otherwise "just missed" QM treatment to predominantly alt-doc loans for both owner-occupied and investment properties.
"Lenders are originating loans with income documentation requirements that are more streamlined and less demanding than QM standards or the GSEs' income documentation guidelines," a Fitch report written by Suzanne Mistretta, Bulin Guo and Sarah Repucci said.
Of the approximately $500 million of non-QM issuance back in 2015, just 11% was alt-doc. By 2018, alt-doc mortgages made up 44% of the $13.1 billion in issuance. This year, there will be $23.8 billion of non-QM issuance, with 48% of that being alt-doc mortgages, Fitch estimates.
For investor property mortgages, lenders are making loans using nontraditional debt service coverage ratio income documentation or even no-income documentation.
Adverse selection for investment property mortgages adds a layer of risk. These products attract applicants that might not fully disclose all of their income on their tax returns, and borrowers that underreport taxable income are at greater risk for personal revenue disruption in the future, Fitch said.
There is also a higher risk for default due to the challenge of reliably estimating business expenses during underwriting.
"Alt-doc loans performance to date has been strong even after taking into consideration the unusually supportive housing and economic environment experienced since the products were introduced," Fitch said in a separate press release. "Actual defaults to date remain well below lifetime expectations. The ability-to-repay rule combined with increased third-party due diligence and improved alignment of interests with issuers have all contributed to better-than-expected performance.
"Considering the lack of stress in the market since these loan products were introduced, Fitch will likely need to observe continued strong performance over a longer horizon before making any significant changes in its approach to the programs."
For now, Fitch is extremely cautious when it comes to these issuances, with its RMBS ratings treatment "similar to, or worse than, legacy 'stated income' programs which were common prior to the crisis."