MSR Runoff Under Scrutiny

Concerns about the incredible runoff of mortgage servicing rights have prompted the Federal banking agencies to step up their examinations of large servicing shops.The bank examiners want to make sure banks are properly valuing mortgage servicing assets (MSAs), recognizing impairment and adequately hedging their servicing portfolios. "MSAs can become impaired when interest rates fall and borrowers refinance and repay their mortgage loans. This impairment can lead to earnings volatility and erosion of capital, if the risk inherent in the MSAs have not been adequately hedged," the interagency advisory says. The advisory tells examiners to be on the watch for: unsupported prepayment speeds, discount rates and other assumptions in MSA valuation models; frequent changes in assumptions used to value MSAs; and servicers who fail to properly stratify MSAs for impairment testing. "The banking agencies may require additional capital for institutions that fail to exercise the sound practices set forth in this advisory," the Feb. 25 interagency advisory on mortgage banking says.