There's pressure on mortgage bankers to sharpen their underwriting and servicing skills now that Fannie Mae and Freddie Mac are opening their doors to nonconventional mortgages.
The chairmen of Fannie and Freddie have said their agencies are willing to guarantee more types of mortgages. At a New York conference last week, representatives of securities firms and credit ratings agencies urged lenders to originate and police the newer loans carefully-or risk losing investor support.
Investment banks replenish lending capital by securitizing mortgage loans and selling them to investors. In return for the support, securities underwriters and traders want the loans to perform well.
Investment bankers say they are already seeing more Fannie and Freddie guarantees on mortgages further down the credit spectrum. The agencies are also doing more with "alternative-A" loans, which are made to borrowers who have good credit but lack traditional documentation.
Lenders must become more proactive with servicing to keep subprime and alternative-A loans on track, said Rajiv Sobti, managing director of quantitative research at Donaldson, Lufkin & Jenrette. Mortgage bankers are taking steps in this direction, he said, "but the jury is still out" about long-term performance.
For their part, mortgage investors should look closely at what they are buying, analysts said. "It would behoove you to read reports about how the various players handle servicing and loss mitigation," said Frank L. Raiter, a managing director with the structured finance group at Standard & Poor's Corp.
Investors have the upper hand and should use it, Mr. Raiter said. "This is an area where you can bring something to bear. If you were to just stop buying the stuff it would have a larger impact than any pressure we could exhibit."
Vigilance in the mortgage market is especially crucial right now, said Andrew Jones, head of the mortgage-backed securities group at Duff & Phelps.
The bull market is inviting all kinds of efforts by the agencies and private-label securitizers, Mr. Jones said. "We're seeing a lot of transactions making it through in the rush to securitize. Occasionally some things slip through."
Indeed, though the strong market of the last 18 months has produced solid returns, mortgage investors said they can't be complacent.
"The low-volatility environment has been a Shangri-La," said Charles McCaghey, senior vice president with Mutual of America Capital Management Corp. "But change is inevitable. All mortgage investors face challenges and opportunities."
In addition to keeping up with loan quality, investors say they are looking closely at the possibility of prepayments, which dampen returns by cutting off cash flows.
"We haven't seen any fast prepayments lately," said Brook S. Payner, senior vice president at CDC Capital Inc. "But there is a lot of uncertainty out there" about where interest rates are headed.
A sustained decline could shock a lot of lenders and mortgage investors, Mr. McCaghey said. "When everyone is convinced a safe range is here to stay, it will depart quickly."
