Analysts at KBW highlight that because the latest mortgage insurance-linked securities (ILS) deal sponsored by Bermudian insurance and reinsurance firm Arch Capital attaches so high up, the deal will not deliver the Private Mortgage Insurer Eligibility Requirements (PMIERs) capital credit its previous mortgage ILS have.
Arch Capital successfully closed a $450 million Bellemeade Re 2020-1 Ltd. mortgage ILS transaction recently, the first mortgage ILS issuance of the Covid-19 era.
But, while this opens up the mortgage ILS market again, which had closed to issuance as soon as the coronavirus pandemic went global, the new transaction does not offer the same capital efficiency benefits as previous arrangements.
Having tried to issue the Bellemeade Re 2020-1 transaction earlier during the Covid-19 pandemic as a much larger transaction, which would have attached its reinsurance coverage lower down, Arch came back with a smaller transaction with higher attachment and much higher coupons on offer for investors.
KBW’s insurance equity analyst team explained that “While the spread pricing is only modestly higher for BMIR 2020-1, the attachment point (when losses shift from Arch to reinsurers) is 7.5% (cumulative), whereas most prior deals were around 2.25% usually.
“Given the high attachment point of this ILN, this transaction will not provide PMIERs capital credit.”
The analysts compare the 2020-1 Bellemeade Re mortgage ILS notes with Arch’s most recent deal from late in 2019.
It shows the much higher attachment of the 2020 mortgage ILS deal, clearly reflecting the more conservative appetites of capital market investors for mortgage credit insurance risk at this time.
As we explained recently, a number of mortgage ILS deals have been triggered due to rising delinquencies, halting the amortisation of the notes to retain the reinsurance coverage for the sponsors, although no principal losses are due yet.
Investors will be nervous over how mortgage loan delinquencies develop from now, likely pushing this Bellemeade Re 2020-1 ILS higher up Arch’s reinsurance tower to make it a more remote risk, with lower attachment probability.
While KBW’s analysts say the coupons are only modestly higher, on a relative basis the coupons of the latest mortgage ILS actually look significantly more to us.
For example, a tranche of notes from the Bellemeade Re 2019-4 mortgage ILS deal that provided credit enhancement at 8.25% paid a coupon of just 200 basis points. Even the lowest layer of last years deal, at 2.25% credit enhancement, only paid a spread of 385 basis points.
The lowest layer of the Bellemeade Re 2020-1 mortgage ILS has credit enhancement of 7.5% and a spread of 440 basis points, more than double the higher layer of last years deal and still more than the lowest layer.
That is a clear demonstration of the increased cost-of-capital for mortgage risk related investment and funding at this time.
So it seems Arch’s new mortgage ILS deals has slightly different motives behind it, securing reinsurance certainly but not the same capital benefit as the previous deals.
Perhaps the motives of re-opening the capital markets to mortgage insurance risk are greater at this time, ensuring investors have deal-flow and that they can get comfortable with this risk again sooner rather than later, allowing for Arch to follow-up with more Bellemeade ILS’ as the delinquency picture becomes clearer over the coming months.
Despite the lack of PMIERs capital credit, KBW’s analysts say, “Nevertheless, we see it as a modest positive for the industry as it signals a reopening of the ILN market.”