Risk Management & Analytics: MSR report finds challenging fourth quarter for hedgers

Risk management activities in the fourth quarter of 2018 proved challenging for several of the largest holders of residential mortgage servicing rights (MSR), according to the most recent MSR Industry Report released by MountainView Financial Solutions, a Situs company.

Rates fell sharply from a high near the end of October to December month-end lows, with the 10-year swap rate and FNCL current coupon index down about 40 and 30 basis points (bps), respectively. This difficult hedging environment resulted in nine of the 14 companies reporting a loss in net hedge results, while only five booked a net gain. The largest annualized loss was 17.4%, and the largest annualized gain was 7.9%.

“An effective hedging strategy will neutralize changes in asset value resulting from changes in market inputs,” said Jason Dekdebrun, MSR Risk Analyst at MountainView Financial Solutions. “However, updates to model assumptions are not possible to hedge.”

In the report, net risk management results are calculated as the sum of two components: reported change in value due to market inputs and assumptions, and reported change in hedge values. For companies that publicly break out changes due to market inputs from updates to model assumptions, net risk management results include only the effect of changes due to market inputs.

The results from the fourth quarter may be an outlier. MountainView’s report has recorded generally positive MSR risk management results in 29 of the last 32 quarters. Over this period, the average annualized hedge benefit relative to MSR value was 4%.

“Nonetheless, this most recent quarter showed the difficulty of effectively hedging in a fast-moving market environment,” said Dekdebrun.

MountainView’s MSR Industry Report is produced quarterly using data from press releases of publicly traded companies. The Q4 2018 report analyzes 21 companies — 15 banks and six non-banks. The report includes additional metrics for industry MSR results, including analyses of MSR risk measures, MSR values, additional MSR portfolio characteristics and sensitivities, and trends in unpaid principal balances. All of these data points are reported for the industry as a whole and for the individual companies.

To discuss the Q4 industry report, please contact analyst Jason Dekdebrun at MountainView (jdekdebrun@mviewfs.com or 303.633.4749).

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