Combined loan to value (CLTV)
ratios in excess of 100%
Second mortgages add debt associated with a resi-
dence, frequently bringing the CLTV above 100%.
The financial pressure resulting from the additional
leverage leads to mortgage delinquency and foreclo-
sure more frequently.
A lack of underlying collateral or mortgage insurance
Bonds supported by first mortgages have numerous
assets behind them. The value of the residence
itself, mortgage insurance or guarantees, mortgage-
backed securities, and first priority in the event of
default and foreclosure provide security to bond-
holders. Second mortgages generally have only the
value of the physical residence for support, but if
that value does not surpass the amount outstanding
on the first mortgage, the second mortgage is essen-
tially an unsecured loan.Rating Methodology
Standard & Poor’s rating criteria for second mort-
gage loan bonds focuses on the credit characteristics
of the total mortgage loan program. Since loss severi-
ty for second loans is assumed at 100%, Standard &
Poor’s criteria for first mortgage loans is used to
determine foreclosure frequency rates, given such
factors as the property type and loan (fixed,
adjustable rate, among others), geographic dispersion
of the loan pool, and the CLTV. In addition,
Standard & Poor’s analyzes historical delinquency
and foreclosure rates, management oversight capabil-
ities, and underwriting and servicing standards.
Standard & Poor’s will not necessarily distinguish
between state and local programs, as many local pro-
grams may be similar to statewide programs.
The strongest second mortgage programs will be
issued in large and heavily populated areas that will
have greater geographic and economic diversifica-
tion, will benefit from experienced loan and pro-
gram oversight, use approved HFAs as servicers or
servicers evaluated by Standard & Poor’s, and have
CLTV around 100%. As CLTV increases or any of
the other elements deviates from the above, the
transaction exposes bondholders to increasing risk,
resulting in higher loss coverage. For example, a
115% CLTV pool in a small state could have a loss
coverage level of 45% for an ‘A’ rating and 56%
for a ‘AA’ rating. A 103% CLTV pool in a large
state could have loss coverage of 27% for an ‘A’
rating and 33% for ‘AA’.
Origination
The standard high quality, least risky first mortgage
portfolio consists of 30-year level-pay, fixed-rate,
first-lien, fully amortizing mortgages on single-fami-
ly, owner-occupied detached residential properties.Standard & Poor’s considers rehabilitation loans,
construction loans, second-or third-lien mortgages,
bought-down mortgages, and tiered-payment mort-
gages to be significantly riskier than 30-year level-
pay loans.
As with first mortgage programs, the portfolio’s
origination area is crucial to determining loss cover-
age. Origination areas may be categorized as large
state, small state/large county, and small
county/city. Many of the issuers of second mortgage
loans are local or regional entities. For them to
achieve an origination designation above small
county/city, they must provide evidence of the num-
ber of and likely dispersion of those loans.
Servicing
Standard & Poor’s will evaluate servicer responsi-
bilities and capacity as reflected in provisions in
bond and loan documents. The strength of servicers
may be assessed through several channels, including
designation through Standard & Poor’s Servicer
Evaluation. Standard & Poor’s will consider an
organization’s background, internal controls, loss
mitigation techniques, staffing, systems, key admin-
istrative functions, financial profile, and compliance
with applicable laws, regulations and industry stan-
dards. Optimally servicing of the first and second
loans is done concurrently, with one payment from
the borrower covering both mortgages.
Standard & Poor’s will not look for higher loan
loss protection on programs that have separately
serviced first and second mortgages in contrast to
those where the servicing and billing combine the
first and second mortgage as long as both servicers
are acceptable.
Management and oversight of program
Supporting the previous item is the issuer’s ability
to properly administer and manage a second mort-
gage program. In assessing the organizational
capacity, Standard & Poor’s will review an issuer’s
experience with single-family mortgage programs
and familiarity with second mortgages. State HFAs
typically have more expertise with whole loan pro-
grams, of which second mortgage structures are one
type, so Standard & Poor’s may give more weight
to a state agency than to a local issuer. State HFAs
often have their own servicing departments and
experience working through lenders and directly
with borrowers. The added oversight, technology,
and experience that some state HFAs possess can be
a factor in establishing loss coverage.Reserve Criteria
Reserve funding for second mortgage loan bonds is
used to cover potential loan losses and liquidity
needs. Standard & Poor’s assumes no foreclosure
proceeds are available for the second lien holder.Housing244 Standard & Poor’s Public Finance Criteria 2007