How Wall Street views the mortgage market. Apparently nothing more than another opportunity for more derivatives and synthetic economics, absurd.
Goldman Sachs commentary, November 15, 2005
At our housing conference yesterday, the conclusion was that near-term earnings concerns should be mostly focused on declining volumes, with credit quality likely holding fairly stable across both the prime and subprime segments of the market. Moreover, there was some support offered for the view that subprime gain on sale margins may actually improve in the next few quarters, although there are few signs of near-term relief. Following are highlights:
Credit quality outlook: The view fairly unanimously was that credit quality within the prime market would be very stable in 2006, with very modest deterioration, if any, in the subprime market. More noticeable deterioration may surface in 2007.
Sub-prime gain-on-sale margins: Gain-on-sale margins are expected to experience some relief in the next few quarters as some lenders shift into survival mode and raise coupons to regain profitability. Nevertheless, several marginal players are expected to be squeezed out of the market medium term, causing excess capacity to dissipate and sale margins to normalize in the 102 range.
Volumes: The volume outlook continues to be under pressure as higher rates and moderating home prices crimp refinancing activity and new home purchases possibly soften with affordability at low levels, particularly on the coasts.
Regulatory environment: A regulators' white paper on nontraditional mortgage products (I/Os, option ARMs, simultaneous first and second mortgage structures, and low and no doc loans) is expected by the end of the year to early next year. The outcome is likely to be some tightening of underwriting standards around I/Os and option ARMs, while reserving and capital levels are likely sufficient.
Growing CDS market to protect against losses: The CDS market for mortgages is rapidly expanding, lead by macro hedge funds and Wall Street firms, although a handful of traditional institutions with mortgage exposure have begun to participate in the market (NCC and CFC are among the few so far to publicly acknowledge using the products). The expectation is that the products will become more pervasively deployed to mitigate eventual deterioration in the market. |
