Tuesday, March 27, 2007

MBS--Loan Documentation

A loan is a legal contract between a borrower and a lender. As we will later see, the "lenders" can take on several guises. But let's talk about the borrowers for the moment.

Borrowers are sorted in accordance to credit quality. Most of us have been through extensive credit screening gauntlets where information is gathered over a current period...perhaps the last year or two. So we have to produce most recent tax returns and supporting documentation, most recent paycheck(s) etc. In addition, our property was most likely appraised in order to provide an objective, third party valuation based on current market standards.

How well you are able to service your debt is based on your liquid assets and earnings. How well collateralized the debt is, also known as the loan to value ratio, depends on the appraisal quality and the relative market conditions.

Credit quality of borrower: I'm going to lift this straight out of a Goldman Sachs S-3

From S-48: The credit score tables appearing in Appendix B show the credit scores, if any, that the originators or underwriters of the Mortgage Loans collected for some mortgagors. Third-party credit reporting organizations provide credit (or FICO) scores as an aid to lenders in evaluating the creditworthiness of mortgagors. Although different credit reporting organizations use different methodologies, higher credit scores indicate greater creditworthiness. Credit scores do not necessarily correspond to the probability of default over the life of the related Mortgage Loan, because they reflect past credit history, rather than an assessment of future payment performance. In addition, the credit scores shown were collected from a variety of sources over a period of weeks or months, and the credit scores do not necessarily reflect the credit scores that would be reported as of the date of this prospectus supplement. Credit scores also only indicate general consumer creditworthiness, and credit scores are not intended to specifically apply to mortgage debt. Therefore, credit scores should not be considered as an accurate predictor of the likelihood of repayment of the related Mortgage Loans."
Think about the above when you hear about how "good" the FICO scores are for borrowers.

To be continued

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