CHICAGO--(BUSINESS WIRE)--Fitch believes that Bank of America's (BAC) recent sale of mortgage servicing rights (MSR) for loans with unpaid principal balances of $306 billion largely reflects the bank's strategic priorities and its desire to move beyond legacy mortgage and litigation issues. Upcoming Basel III capital guidelines may also have played into the decision. We believe that other banks with large MSR assets may also begin to complete sales or pursue other strategies to limit their size on bank balance sheets.
Holding MSRs on the balance sheet has considerable capital implications under Basel III. Since there is a 10% cap on MSRs' contribution to common equity under forthcoming capital rules, BAC's sale was likely driven in part by capital relief considerations. This is particularly relevant now, since the value of MSRs would increase in a rising interest rate environment.
BAC's recent MSR sale also indicates that a market exists for these assets, and the transaction's $650 million premium over the MSR book value suggests that the market is relatively attractive now. This is particularly noteworthy given that BAC had one of the more challenging servicing books compared with other large institutions. Still, there may be capacity constraints in the nonbank market for MSR acquisitions, which may make future sales more difficult.
That said, we still expect other large mortgage players -- in particular, comparatively stronger ones like Wells Fargo (WFC) -- to consider potential strategies for dealing with the MSR cap under Basel III, including servicing sales and de-emphasizing third-party lending channels. J.P. Morgan, with a smaller MSR relative to its overall equity position, may also be a likely candidate to reduce these assets on its balance sheet.
BAC, in particular, had important motivations besides capital rules in reducing its MSR. The bank is not pursuing a mortgage wholesale lending strategy anymore, as had been the case at Countrywide when it was purchased by BAC. As a result, the retention of a large servicing platform is not critical to its strategy.
Rather, we expect that BAC will continue to originate mortgages but primarily through its branch network and wealth management units, where it can hold the assets on balance sheet and cross-sell a number of other products to these customers. We believe this should lead to more stable earnings for BAC because it removes some of the earnings volatility inherent in running a national mortgage lending platform.
Finally, BAC's MSR sale included a number of loans classified as 60-day-plus delinquent loans. As servicing rights on legacy loans are transferred through the transaction, BAC's exposure to legacy foreclosure risks will be reduced further.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.