Reports of the U.S. mortgage-insurance industry’s demise have been greatly exaggerated.
NMI Holdings, a new home-loan guarantor, has hired investment bank FBR & Co. to help it raise $550 million after record homeowner defaults felled three competitors and left all but one of the survivors with junk credit grades, according to two people familiar with the company’s plans. Goldman Sachs Group Inc. and JPMorgan Chase & Co. are among the backers of another upstart, Essent Guaranty Inc.
“I’d love to start a mortgage insurer today,” said Chris Gamaitoni, a Washington-based analyst at Compass Point Research and Trading LLC who’s worked at FBR and Fannie Mae. “It’s the absolute point in the cycle where you’d want to.”
Insurers are benefiting as the government seeks to reduce its role in the market. Policies sold now are safer and more profitable because of tighter lending standards, improved pricing and home values that are 34 percent down from their 2006 peak. The housing market is beginning to show signs of improvement, with the median price increased over the past year for the first time since November 2010, according to the National Association of Realtors in a report yesterday.
Mortgage insurance is typically paid for by consumers, picked by lenders, and required for debt exceeding 80 percent of a property’s value. The policies cover some or all of foreclosure losses and represent a separate business from the mortgage-bond guarantees provided by Fannie Mae and Freddie Mac. Those taxpayer-supported housing financiers are also private mortgage insurers’ main clients.
An overhaul by policy makers of the U.S. housing-finance system presents a long-term risk to the business because it could reduce the insurers’ role in the $9.8 trillion market.
The government, through agencies such as the Federal Housing Administration, is currently the largest provider of mortgage-insurance coverage, followed by Radian Group Inc., American International Group Inc.’s United Guaranty unit and MGIC Investment Corp., according to Inside Mortgage Finance.
New private policies climbed to 6.3 percent of the $1.26 trillion of U.S. home loans made last year, from 4.5 percent in 2009 and 2010, according to data from the newsletter and the Mortgage Bankers Association. That reached 6.9 percent last quarter as the FHA, which backs loans with down payments as low as 3.5 percent, raised its premiums to avoid a taxpayer bailout.
The agency’s share fell to 13.2 percent in the fourth quarter from 16.3 percent in 2010.
NMI, whose insurance unit may be named National Mortgage Insurance and overseen by Wisconsin’s regulator, is promising to return its capital at 95 cents on the dollar if it doesn’t get approval from Fannie Mae or Freddie Mac by the first quarter of 2013, said one of the people, who declined to be named because the offering is private.
The company would be led by Chief Executive Officer Bradley Shuster, who oversaw PMI Group Inc.’s foreign units before U.S. home loans drove that guarantor into bankruptcy last year, the people said. Jay Sherwood, formerly of investment firm Eastbourne Capital Management LLC, would be its chief financial officer and James McCourt, who worked at a company serving credit unions, its chief risk officer, two of the people said.
Shannon Small, a spokeswoman for Arlington, Virginia-based FBR, declined to comment, as did McCourt. Shuster and Sherwood couldn’t be reached.
‘Welcomed by the Industry’
“A new entrant, despite the fact that it increases competition and could take share, is welcomed by the industry,” Matt Howlett, an analyst at Macquarie Group Ltd., said in a telephone interview. It shows new funds are coming into the business at a time when the incumbent companies have been asking regulators for waivers to keep writing new policies as capital levels fall below permitted levels, he said.
Essent raised $600 million in 2009 and 2010 from investors that also included private-equity firm Pine Brook and reinsurer PartnerRe Ltd. The Radnor, Pennsylvania-based firm began writing policies last year, providing $3.2 billion of coverage.
Essent declined to comment through an outside spokeswoman, Janice Walker, as did JPMorgan’s Tom Kelly. Goldman Sachs invested its own money in the company, rather than clients’, spokesman Michael DuVally said, declining to comment further.
Private insurers are attempting a second comeback after losing ground during the housing bubble that began to burst in 2006. During the boom, companies from banks to bond investors and Fannie Mae embraced riskier loans without their backing, including piggyback home-equity debt.
The industry’s market share fell from 10.2 percent in 2003 to 8.5 percent in 2006, before jumping to 14.7 percent in 2007, and then shriveling as the insurers, Fannie Mae and Freddie Mac grew more cautious.
The firms are growing more competitive after the FHA raised the annual premiums it charges to as much as 1.15 percent from 0.55 percent prior to October 2010. It’s planning an additional 0.1 percentage point increase next month. The FHA will also start charging 1.75 percent upfront, an increase from 1 percent to an amount that can be rolled into homeowners’ debt.
Insurance from Radian costs 0.94 percent annually for a $200,000 30-year fixed-rate loan to a New Jersey home buyer with a 5 percent down payment and credit score of 700, according to its website. With a 620 credit score, premiums are 1.2 percent.
While mortgage insurers compete against the FHA and other U.S. programs, their “lifeblood” is Fannie Mae and Freddie Mac, whose government charters require the coverage or similar protection on loans of more than 80 percent of home values, said Alex Pollock, the former head of Federal Home Loan Bank of Chicago.
Pollock, a resident fellow at the American Enterprise Institute, called the requirement “one of the greatest lobbying successes in finance of all time,” while saying new insurers would be a “healthy thing.” He’s an advocate for eliminating Fannie Mae and Freddie Mac, which have required $190 billion of taxpayer aid since being seized in 2008.
Even if they’re replaced by similar entities, “there will likely be a complete re-evaulation” of their need to have mortgage insurance, said Thomas Lawler, a former Fannie Mae economist who’s now a housing consultant in Leesburg, Virginia.
Loans with down payments of less than 20 percent shouldn’t always require the coverage if borrowers have other strengths, Lawler said. At the same time, rating firms’ assessments of the insurers as sound will be viewed with more suspicion after proving too optimistic during the crisis, similar to a trend that’s shrunk municipal-bond insurance, he said.
Protection from mortgage insurers can be untrustworthy because their risk is tied to the housing market and health of consumers, which often sour together, Pacific Investment Management Co.’s Scott Simon said.
“It’s very hard for a mortgage insurer to charge enough that they’re there when something terrible happens,” said Simon, the Newport Beach, California-based mortgage head at Pimco, which runs the world’s largest bond fund. Survivors have relied on their ability to reject claims because of lenders’ underwriting errors and “that’s not so good either,” he said.
While “it’s correct that there have been very significant problems in the mortgage-insurance industry and the private sector more broadly,” the U.S. will likely settle on a system in which taxpayers share credit risk with private guarantors, bond investors and others willing to bear the initial losses, said Michael Barr, assistant Treasury secretary for financial institutions from 2009 to 2010.
With the insurers, which are regulated by states, “it would be important to have stronger federal oversight of their health,” said Barr, now a professor at the University of Michigan’s law school in Ann Arbor.
The industry has paid $30 billion of claims, mostly to Fannie Mae and Freddie Mac, “through the current cycle, and we have adequate capital to continue to pay claims,” Kevin Schneider, CEO of Genworth Financial Inc.’s mortgage-insurance unit, said March 14 in a speech at a conference, according to a transcript. “That $30 billion, by the way, is money that didn’t have to come from the taxpayer.”
Under rules proposed last year, the Federal Reserve and other regulators decided against allowing insured loans with low-down payments into a class of debt called Qualified Residential Mortgages, potentially limiting demand for the coverage. Sellers will be required to retain slices of non-QRM debt when packaging it into bonds that lack government backing.
Reducing Government Role
Fannie Mae and Freddie Mac’s federal overseer is looking to private mortgage insurers to help further reduce the government’s role in the market.
In a report last month on the two companies’ future before a housing-finance overhaul, the Federal Housing Finance Agency said that, “while some mortgage insurers are facing financial challenges as a result of housing market conditions, others may have the capital capacity to insure a portion of the mortgage credit risk currently retained by the enterprises.”
Corinne Russell, an FHFA spokeswoman, declined to comment, as did Brad German of Mclean, Virginia-based Freddie Mac. Andrew Wilson, a spokesman for Washington-based Fannie Mae, didn’t respond to messages.
Amid the worst U.S. housing crash in seven decades, units of PMI, once the third-largest U.S. provider of the coverage, Triad Guaranty Inc. and Old Republic International Corp. have stopped writing policies and been ordered by regulators to pay only portions of claims.
Aside from Essent and the second-ranked United Guaranty unit of AIG, the bailed-out New York-based insurer, remaining guarantors carry ratings below investment-grade, or the equivalent of less than BBB- at Standard & Poor’s.
Still, new entrants may find it “very difficult to break into this industry,” said Macquarie’s Howlett. “It’s very hard to tell a bank why you should be doing business with a new startup when they’ve been going to MGIC and Radian and Genworth for so many years.”
Radian has used its ability to share risk-management data and train lenders’ employees as marketing tools, said Teresa Bryce Bazemore, president of the Philadelphia-based firm’s mortgage-insurance unit. “We’d put our training group up against anybody in the industry.”
Recent policies are also helping Milwaukee-based MGIC to recover, according to Mike Zimmerman, a spokesman for the former market leader that fell to third place at the end of last year and has been unprofitable in 17 of the past 18 quarters.
“The new business we’re writing is profitable, so that’s generating organic capital,” he said. ‘As stressful as it has been for policyholders and shareholders, one could say the business model has worked.”
Investors’ distrust of mortgage bonds without government backing means that private insurers are needed to help the U.S. reduce its role in the market, First Principles Capital Management LLC CEO Doug Dachille said.
“The government and me, as a taxpayer, want to see these guys have some success raising capital,” said Dachille, a former JPMorgan treasurer whose New York-based firm oversees $8 billion of assets.
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