MSRs and Servicer Advances
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MSRs and Servicer Advances
In our view, the approximately $10 trillion mortgage servicing market presents a number of compelling investment opportunities. A mortgage servicing right ("MSR") provides a mortgage servicer with the right to service a pool of mortgage loans in exchange for a fee.
Approximately 74% of MSRs are currently owned by banks. We expect this number will continue to decline as banks face pressure to reduce their MSR exposure as a result of heightened capital reserve requirements under Basel III, regulatory scrutiny and a more challenging servicing environment. As banks continue to sell MSRs, there is an opportunity for entities such as New Residential to participate through co-investment in the corresponding Excess MSRs.
An MSR is made up of two components: a basic fee and an Excess MSR. The basic fee is the amount of compensation for the performance of servicing duties, and the Excess MSR is the amount that exceeds the basic fee. As the owner of an Excess MSR, we collect monthly cash flows from the MSR, but do not assume any servicing duties, advance obligations or liabilities associated with the portfolios underlying our investment.
New Residential pioneered investments in Excess MSRs.
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Servicer advances are a customary feature of residential mortgage securitization transactions and represent one of the duties for which a servicer is compensated through the basic fee component of the related MSR, since the advances are non-interest bearing. Servicer advances are generally reimbursable cash payments made by a servicer (i) when the borrower fails to make scheduled payments due on a mortgage loan or (ii) to support the value of the collateral property. The purpose of the advances is to provide liquidity, rather than credit enhancement, to the underlying residential mortgage securitization transaction. Servicer advances are usually repaid from amounts received with respect to the related mortgage loan.
Advances are typically “top of the waterfall”; first in line to be repaid and thus are very high credit-quality. Furthermore, we expect advance balances to decline substantially over time as delinquencies continue to improve and foreclosure timelines normalize. We believe advances will provide an opportunity for us to invest in core servicing assets that generate attractive yields.