In a vote of confidence for a private mortgage securitization revival, Arch Capital Group is repurposing one of its subsidiaries to insure loans for inclusion in such deals.
While other private mortgage insurers write insurance on loans that are not headed for purchase by Fannie Mae or Freddie Mac, they do so through their main underwriting units. Arch Capital will use a separate business, with its own unique master policy, so it can offer more favorable terms to lenders than the government-sponsored enterprises allow.
Specifically, the unit, known as Arch Mortgage Guaranty, will reserve the right to yank coverage only in cases of outright fraud. Generally mortgage insurers can rescind policies for misrepresentations in the loan file, which could include omissions or errors. During the financial crisis these companies attempted to broadly exercise that right, resulting in lawsuits from lenders (including one brought by Bank of America's Countrywide against MGIC) and legal settlements which favored those lenders.
"We think there is a need in the market for offering greater certainty of coverage, so [for] these loans, which we will underwrite ourselves, coverage becomes valid and can't be rescinded," said David Gansberg, the president and CEO of both Arch MI, the flagship business, and Arch Mortgage Guaranty.
Issuance of mortgage-backed securities without a government guarantee dried up after the 2007-2008 housing crash, though some companies like Redwood Trust have been active on a limited basis.
In private mortgage insurance, the master policy sets the general terms of coverage between the lender and the insurer. In master policies of insurers that sell loans to the GSEs, the most liberal policy offers relief from rescission only after the customer makes 12 consecutive monthly payments, Gansberg said.
The non-GSE business is being done through an existing private mortgage insurer. At the same time Arch Capital acquired what was then called CMG Mortgage Insurance from the PMI Group and CUNA Mutual about a year ago, it also acquired PMI Mortgage Assurance Co. PMAC was created by PMI Group to write business when its primary operating unit had to stop issuing policies in two states because of capital problems.
Arch Mortgage Guaranty Co., as PMAC is now being called, will also provide coverage on loans lenders will keep in their portfolios and other loans that do not meet the regulatory definition of a qualified mortgage. It is a separately capitalized company that shares a parent company with Arch MI, the former CMG.
Having a separate unit write this type of business is a model apparently unique to Arch Capital. Emily Riley, a spokeswoman for Radian Group said its main operating unit Radian Guaranty writes insurance on loans not for sale to the GSEs.
The same is true at MGIC Investment Corp., where the Mortgage Guaranty Insurance Corp. unit also writes insurance on non-GSE loans as well as GSE loans.
Insuring non-GSE loans is a small portion of what MGIC does because of the sparse activity in the private label market, said Mike Zimmerman, its senior vice president of investor relations.
"There is not a lot of insurable volume. If the market starts creating more private-label securities, we will end up doing a larger percentage," but still through the main underwriting subsidiary.
But if the proposed GSE capital requirements end up in a position that MGIC could not insure non-GSE loans at a reasonable price, then it would look at possibly setting up a subsidiary in order to do that business.
"It is a product we would like to insure, and if the need came in the future that the best way to do this is to fund it in a separate subsidiary" than it would consider that option, he continued.
However the market demand to insure non-GSE loans is not there right now. But before the housing crisis, approximately 25% of the new insurance written by MGIC was for loans not eligible to be sold to the GSEs.
Similarly, "at this time, we don't believe private label securitizations are primary to National MI's business," said Brad Shuster, its CEO.
But the company is keeping an eye on this market.
"National MI is executing well in our core markets, but if the private label MBS market grows, providing mortgage insurance on those securitizations is an opportunity National MI could easily address," Shuster said.
United Guaranty Corp. declined to comment for this article, while Essent and Genworth have yet to respond to a request for comment.
AMG, the Arch subsidiary being repurposed, is not subject to the proposed capital standards from the Federal Housing Finance Agency for MIs who do business with Fannie Mae and Freddie Mac.
The capital requirements, which will apply to Arch's main unit, did not play a role in the decision to have a separate unit insure non-GSE loans, said Gansberg.
Many see non-QM loans as having a higher risk of default than loans but having them in a separate business means they would not be part of the Arch MI book used to calculate the amount of capital it would have to hold to do business with Fannie Mae and Freddie Mac.
The motivating factor was the ability for AMG to insure a wider range of products, such as jumbo mortgages and mortgages which fail the debt-to-income ratio test in QM, Gansberg said. AMG will able to offer pool insurance, a product which before housing crisis was used to insure securitized subprime mortgage loans, as well as bulk insurance, a policy that insures a portfolio of closed loans.
Moody's has given AMG an A3 insurer financial strength rating, which Gansberg said makes it the highest rated private mortgage insurer. This rating reflects Moody's stand-alone credit assessment of AMG, which it then increased by three levels based on explicit and implicit support from Arch and its affiliated entities. The Baa3 standalone credit assessment reflects AMG's strong capitalization relative to its current and expected net mortgage insurance exposures, no exposure to pre-2009 mortgages and the market position and operational capabilities it derives from its affiliation with Arch MI.
Even though AMG is not covered by the GSE capital requirements, it still needs to meet Moody's parameters, Gansberg pointed out. So as part of its capital support, AMG has reinsurance agreements with two other Arch Capital subsidiaries.
As of year-end 2013, AMG had $20.1 million of legacy risk-in-force, consisting of prime, fully documented mortgages originated in 2011 when it was doing business as PMAC. Arch Capital also recapitalized AMG, which now has $50 million in capital.
AMG is licensed in all 50 states but Connecticut and Florida have put restrictions on that license that Arch Capital is working to get lifted, Gansberg said.
The company is ready to start writing business right now and will do so "as soon we can get our message out to lenders that we have this product available," he continued. AMG will share a sales staff with Arch MI.