Hedge accounting MSR value increases
The bank holds an MSR asset aggregating 1,000 where fair value and book value at the beginning of the period are equal. The bank hedges this asset with derivative instruments. During the period, the MSR asset increases in value while the derivatives lose value. At the end of the period, the bank closes all derivative instruments hedging the MSR. All illustrations are hypothetical and do not consider other hedge accounting requirements such as proof of effectiveness, adequate documentation, etc....
MSR Valuation The Perfect World
The value of an MSR is based upon expected cash inflows loan servicing Loan servicing income retained spread 500 ancillary income net of Float, escrow and ancillary income 60 Net income time value of money 75
Hedge accounting MSR value increases 1
Additionally, as the value of the MSR asset increases, existing impairment reserves may be recovered. Derivatives are closed resulting in the payment of 400 in cash. The offsetting entry increases the MSR book basis as follows Derivatives are marked to market each period through earnings. The MSR also is marked to market each period for the risk hedged. Closing a derivative position reduces the derivative asset liability, but does not affect the MSR. The accounting follows
Servicing Process Flow Example
Proceeds are invested to earn Float interest income between the collection of the payment from the customer and remittance. Typically between 5 and 10 days. Pays Servicer principal amp interest 6 Retains 35 bps of 6 coupon to cover costs to service Holds Escrow deposits at no cost until remitted Agent retains a guarantee fee of 15 bps in exchange for default risk Pass thru vehicle retains portion of cash flows to absorb default risk Investors receive principal and 5.50 in coupon payments for...
The Mortgage Origination Timeline
0 to 14 days Application Lock Date Lender extends irrevocable commitment to fund mortgage Borrower may decline with no penalty Mortgage banks typically sell forward expected production
Hedge accounting MSR value declines 1
Under Dutch GAAP out performance of hedges is not recognized in earnings, but rather as a reduction of the MSR. Conversely, under US GAAP, income is recognized on the hedge and an offsetting Impairment is recognized on the asset. Derivatives are closed resulting in the receipt of 600 in cash. The offsetting entry reduces the MSR book basis as follows Derivatives are marked to market each period through earnings. The MSR also is marked to market each period for the risk hedged. Closing a...
What comprises servicing revenue
Mortgage servicing rights MSRs significantly impact servicing revenue. - MSRs represent the net present value of net cash flows expected from servicing - when loans are sold with the right to service the loans retained or - when servicing rights are separately purchased - MSRs are amortized over the life of and in proportion to the cash flows expected from the underlying loan - MSRs must be assessed for impairment fair value deficient to book value
Gain on Sale an Illustration
A 100,000 par mortgage is sold at 99,500 Net deferred costs aggregate to 500 Expected value of mortgage servicing rights aggregates 1,500 No impairment charges were recognized while held for sale Typically, A paper single-family mortgages are sold without recourse
General Accounting Principles US GAAP
Loan Servicing Income the servicer collects a spread on outstanding mortgage loans every month - Accounting service fee income is accrued as earned. Similarly, costs to service the loans are expensed as incurred MSR the servicer estimates the net present value of servicing income of the underlying mortgage, net of expected costs to service - Amortization the MSR is amortized in proportion to the expected net cash flows of the asset. Prepayments significantly impact the expected life
Origination Profitability Channel Costs
Channels have different relative costs Source MBA Stratmor Peer Group Survey Source MBA Stratmor Peer Group Survey - Retail footprint provide cross selling opportunities - Retail structure and employee base have other roles
Outstanding Agency Securities
ABN AMRO securitizes through all three Agencies. The primary Agency utilized by ABN AMRO is FHLMC. 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 E 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 E