Investors last week snapped up the first domestic package of securities backed by an increasingly popular type of mortgage whose repayment usually depends on the death of the borrower.
Lehman Brothers issued $317 million of bonds backed by a portfolio of reverse mortgages held by Financial Freedom Senior Funding Corp. of Irvine, Calif. The deal follows the securitization of about $87 million of Canadian reverse mortgages this year.
Reverse mortgages let senior citizens tap the equity in their homes for cash to do home improvements or pay medical or other expenses. No payment is made until the borrower either dies -- leaving it to heirs to settle the loan -- or moves out of the home.
"These products are different from forward mortgage loans in the sense that what drives repayment are mortality and morbidity events," said James R. Mahoney, senior vice president at Financial Freedom.
Matthew C. Miller, a trader at Lehman Brothers, said reverse mortgages have "the potential to become almost as big as the home equity sector" as baby boomers become senior citizens. He said the firm wanted "to be the first one in the door" with a securitization of U.S. mortgages.
Unlike other mortgage-backed securities, the reverse-mortgage-backed securities carry no default risk, though they do have the same risk of declining property values. Prepayments are driven by age rather than interest rates, Mr. Miller said.
Once the market matures, Mr. Miller predicted, these securities will trade in the asset-backed, London interbank offered rate floater market at yields that fall between those for credit card and home equity bonds.
About 30 lenders account for the lion's share of reverse mortgages in the United States, said a spokesman for the National Reverse Mortgage Lenders Association in Washington. A product available under the Department of Housing and Urban Development's FHA program accounts for 90% of reverse mortgages, and the remaining 10% is divided between Fannie Mae's product and jumbo loans like the ones Lehman brought to market, he said.
Fannie Mae has estimated that one million reverse mortgages will be made in the next five years.
The securities issued last week were backed by reverse mortgages too large to conform to the requirements of Fannie Mae. Financial Freedom got the portfolio from Transamerica in June when it bought HomeFirst, a San Francisco servicer.
The securitization for Canadian Home Income Plan in Toronto got a AAA rating from Standard & Poor's.
In last week's securitization, S&P rated the AAA tranches, Moody's Investors Service rated the AAA, AA, and A tranches, and Duff & Phelps Credit Rating Co. rated AAA, AA, A, and BBB tranches. Insurance companies and fixed-income money managers were the main buyers of the bonds rated below AA, Mr. Miller said, and banks and money managers bought the AAA securities.