February 2017 - Making Millennials Move

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TH E M R EP O RT | 27 FEATURE an interest-only loan; 2) a negative- amortization loan; or 3) a bal- loon loan; and it cannot have an amortization period greater than 30 years. These features, while disqualifying a loan as a QRM, are what most attract investors, given their interest in the popula- tion of high net worth consumers who, because they lack traditional income that is easily documented or asset types that are easily drawn down as income, seek non- traditional products that give them the ability to control the amount they pay on their mortgages and manage personal tax liability. The credit risk retention requirements for the non-QM loans require sponsors to have sufficient capital—and the willing- ness to set it aside—to support the non-hedgeable 5-percent credit risk retention requirement. The recent years of a historically low interest rate environment have allowed sponsors to find more attractive returns on the invest- ment needed for such a set aside. But now, with a rising interest rate environment, non-QM may become a more attractive avenue and investment for sponsors and their cash. The shrinking refinance market may also prompt some lenders to test the waters for an eventual loosening of credit standards for consumers with lower FICO scores and higher loan-to-value ratios. If this happens, as it has in the past, it would generate the liquidity to support a responsible return to lending for boomerang buyers and other underserved consumers who are now recover- ing from the economic downturn of 10 years ago. Other Forces at Work A boost to the non-QM lending space can come from several fronts. Formal guidance from the CFPB on several non-QM issues and appropriate model forms to meet the TRID disclosure obliga- tions for interest-only, pay-option ARMS, and balloon mortgages would increase the appeal for many investors. The market also would benefit from guidance on the sufficiency of required docu- mentation to support and appro- priately validate income derived from non-traditional sources (e.g., certain rental properties) and how to assess equities and alternative investments for the purposes of future cash flows and income determination over the term of the mortgage. Eventually, loans with DTI ratios above 43 percent will also be a source of securitization. This isn't happening now because of the "QM patch," but that exemp - tion is set to expire when the GSEs exit conservatorship (but no later than January 10, 2021). As the interest rates begin to rise, as investors find comfort or clarity, and as non-traditional products find a footing once again, non-QM lending will find its place in the primary and secondary markets. It won't happen overnight. But as we move into 2017, headwinds appear to be subsiding, perhaps propelling non-QM for the first time. JOHN LEVONICK is the Director of Regulatory Compliance at Clayton Holdings. He can be reached at

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