Redwood Trust calls for slow removal of the qualified mortgage patch

Mortgage lenders generally fear letting the government-sponsored enterprises' qualified mortgage exemption expire could disrupt the market for certain loans.

But an executive at Redwood Trust told analysts in the company's recent earnings call that a slow approach could make the process manageable.

"I think if you focus on the different subsets or the different cohorts of the non-QM universe, you could really, very gradually, solve this issue," Redwood CEO Christopher Abate said during the call.

The Consumer Financial Protection Bureau recently issued an advanced notice of proposed rulemaking seeking comment on its plans to proceed with the expiration of the GSEs' QM exemption by early 2021, or thereabouts.

And many lenders are now saying they fear the GSEs could release a slew of loans with high debt-to-income ratios into the private and government-insured mortgage markets when the exemption expires.

The GSEs have recently begun reducing their high DTI loan purchases, but they still hold a high percentage of these loans. As of 2018, roughly 25%-29% of their purchase loans had a DTI above 43%, according to an Urban Institute analysis of data from research firm eMBS. A maximum debt-to-income ratio of 43% is one of the key determinants of QM status.

High DTI loans made up an even higher share of mortgages in the government-insured market, which has a permanent QM exemption, the report by the institute's Housing Finance Policy Center shows.

The QM exemption allows entities that have it to obtain a safe harbor from ability-to-repay rule liability regardless of whether their loans meet the CFPB's qualified mortgage standards.

Redwood's share price initially rose after the CFPB's notice, but it was down Monday following the release of the company's mixed earnings results and a severe drop in the broader stock market.

The company's net income of $31 million during the second quarter was down 6% from a year ago and almost 43% from the previous quarter. Its diluted earnings per common share of $0.30 underperformed Seeking Alpha's consensus estimates by $0.07.

However, when adjusted for nonrecurring items, Redwood's earnings were up 16% from a year ago and 13% on a consecutive quarter basis. In addition, on an adjusted basis, its diluted earnings per common share of $0.39 outperformed consensus estimates basis by a penny.