The American Council of Life Insurers (ACLI) wants insurance regulators to distinguish between different types of non-mortgage asset-based securities (ABS) when rating ABS assets.
The Valuation of Securities Task Force at the National Association of Insurance Commissioners (NAIC), Kansas City, Mo., has included a copy of an ACLI paper on the topic in a packet of materials for a task force session set to take place Aug. 30 in Philadelphia, at the upcoming NAIC summer meeting.
Many agenda items relate to residential mortgage-backed securities (RMBS) and commercial mortgage-backed securities (CMBS).
The NAIC has been using a homegrown mortgage-backed securities (MBS) evaluation system because of concerns that ratings from “accredited rating organizations” (AROs) — rating agencies approved by the NAIC — have performed poorly in recent years.
Tim Leaycraft and Eric Kolchinsky, consultants, presented a sobering mid-year report on the residential and commercial real estate markets. “House prices nation-wide have deteriorated and home price projections have been adjusted downwards,” the consultants say.
Delinquency rates for subprime borrowers who took out loans from 2005 to 2007 are approaching 50% but are starting to come down; delinquency rates for prime borrowers are much lower but still rising. Because of the effects of the high unemployment rates on prime borrowers, delinquency rates for prime borrowers who took out loan in 2005 are over 10%, and delinquency rates for prime borrowers who took out loans in 2006 and 2007 are close to 20%.
In the residential real estate market, “demand is hampered by stubbornly high unemployment and much stricter loan underwriting,” the consultants say.
In the commercial real estate market, vacancy rates have stabilized and apartment complex rents have returned to 2008 levels. The main threats to that market are the soft U.S. economy and uncertainty in the capital markets as a result of the European debt crises,
“There is currently no clear pathway to deal with the [more than] $250 billion of CMBS loans maturing in 2015-2017,” the consultants say.
The ACLI ABS paper covers a different but related topic: The performance of U.S non-mortgage ABS.
The NAIC has been looking into the idea of “recalibrating” the NAIC’s treatment of rating agencies’ ratings on assets, including ABS, in light of how those assets have performed since the financial crisis began. Some at the NAIC have talked about replacing rating agency ratings on ABS with NAIC-generated ABS ratings.
The NAIC has defined “ABS” to include securities backed by auto loans and leases, credit card receivables, manufactured housing, student loans, equipment leases and loan, aircraft leases and loans, other types of collateral.
The NAIC originally proposed lumping all non-mortgage ABS together. The ACLI objected to that approach, and it has persuaded the NAIC staff to work with it on developing an alternative.
The ACLI noted that the insurance company investment default rate differs by asset class. Corporate bonds may be either more likely or less likely to default than their ratings would suggest, and ratings on municipal bonds appear to overstate the default risk, the NAIC consultants say.
Non-mortgage ABS backed by health care receivables, mutual fund fees, franchise loans, manufactured housing and aircraft leasing have done poorly but the default rate on ABS backed by auto loans, student loans, credit cards and equipment leases has been “immeasurably low,” the ACLI says.
Actual overall loss rates for investment-grade, non-mortgage ABS have been just 0.38% over the past 5 years, compared with 0.57% for investment-grade corporate bonds, the ACLI says.
Over the period starting in 1993 and ending 2009, about 62% of health care receivables ABS and 20% to 40% of aircraft lease, manufacturered home, franchise loan and and mutual fund fee ABS became impaired, but the percentage of auto loan, student loan and credit card ABS that became impaired was under 1%, the ACLI says.
The original NAIC staff proposal would have had the effect of cutting the effective NAIC rating for all non-mortgage ABS by 1 notch, even though most of the ABS that life insurers hold are the kind with low default rates, the ACLI says.
The ACLI has proposed splitting ABS into a category of ABS that have been strong performers, including student loan ABS and credit card ABS; a category of ABS that have done worse than their ratings have implied; and a category of ABS with performance that has been in line with ratings.