InsightsThe Unique Challenges of Non-QM Loans in Real Estate Portfolio Management

Strategic partnerships are essential to mitigating non-QM risk and building a high-performing real estate portfolio.

The pre-pandemic momentum of the gig economy created new opportunities for lenders and investors open to exploring the potential of non-qualified mortgage (non-QM) loans. As a solution for self-employed and other borrowers who don’t fit into the conventional Fannie Mae, Freddie Mac or FHA credit boxes, as well as for real estate investors looking to fix and flip or buy and hold properties, non-QM products have been steadily gaining traction for over a decade.

But non-QM originations and securitizations froze in their tracks when COVID-19 reared its ugly head last March. Uncertainty shifted lenders and investors into wait-and-see mode, where they remained for at least a couple of months. “There was a lot of trepidation in the market about what might be happening with these borrowers,” says Brian Pidgeon, vice president and national sales executive at ServiceLink. “In such a volatile market, it became unclear whether they would be able to pay back their loans.”

By Q3, as the economic outlook became more promising in terms of both declining unemployment and rising GDP, lenders began offering non-QM products again; investors cautiously considered reviving non-QM activity as part of their real estate portfolio management strategies; and non-QM market momentum began building once again. In fact, S&P Global looks for non-QM issuance volumes to return to 2019 levels this year, reaching an estimated $25 billion.

Non-QM Portfolio Risk Management: How the Right Partner Can Help

It has been a learning experience for all, seeing how non-QM loans perform under stress. Although borrowers have for the most part prevailed through the pandemic’s economic hardships, either keeping up with their payments or leveraging loan modification or forbearance opportunities offered by their lenders, lenders have come away with new insights about mitigating risk in this segment. Many have tweaked their non-QM loan programs and underwriting policies to accommodate more borrower scenarios while better protecting themselves.

“Some larger non-QM lenders are almost fully back, while smaller ones may be back in a limited capacity, offering non-QM loans only in specific areas — jumbo loans perhaps — where they feel particularly comfortable,” says ServiceLink National Account Executive Duane Hale. “They are likely to hold off in issuing all of their non-QM products until we all know for certain when the moratoriums will end.”

Some investors are limiting their non-QM acquisitions until that moment as well, Hale adds. “I think there is pent-up demand, but until investors know how the new administration plans to define the rules of the game, they may continue to hold back. If the new rules are conducive to investors’ coming back into the market, then we can expect to see transactions pick up quickly.”

As non-QM activity accelerates, lenders and investors in the non-QM space must rely on trusted partners for specialized support to help them with their portfolio risk management. Technology and expertise in valuations, title and closing can facilitate the origination process and ease the time-consuming, complex nature of third-party due diligence.

“Non-QM lenders need to create a smooth customer experience to ensure repeat business, whether they are lending to a homebuyer or to a real estate investor seeking to purchase rental properties or fund investment property construction,” says Jane Kennedy, senior vice president and national sales executive at ServiceLink. “ServiceLink has a niche title and close team whose focus is on serving non-QM lender and investor borrowers. They understand the nuances of each state’s title, escrow and recording requirements, and make individual and bulk transactions seamless for the lender and customer.”

Kennedy adds that ServiceLink provides additional services to investors and lenders buying and selling bulk loan portfolios that include non-QM loans, nonperforming loans and re-performing loans. “We perform due diligence including title and document review, title curative services and advanced reconciliation,” she explains. “Our Process Solutions division provides reconciliation on a loan-by-loan basis of any amounts due pre- and post-acquisition, and a determination of recoverable versus nonrecoverable costs. This is key to understanding what outstanding amounts can be collected by the purchaser of the loans, enhancing the value of the trade or purchase.”

In the area of valuations, the right partner helps mitigate risk by conducting and validating appraisals. “Lenders and investors have their own requirements for non-QM loans; they should work with an appraisal management company that can fulfill their range of needs,” Pidgeon says. “At ServiceLink, we use a variety of valuation tools — from traditional and hybrid appraisals to desktop reviews designed to validate appraisals completed by other AMCs. The key is having the flexibility and expertise to ensure accuracy as well as efficiency.”

Accuracy and efficiency will only grow in importance as the non-QM market moves forward. “A lot of investors are building non-QM loans into their real estate portfolio management efforts; it is a very hot asset class right now,” says Pidgeon. “I think we can expect it to continue growing, because the economy is developing in innovative ways through nontraditional job opportunities. Pandemic layoffs and work-from-home models have moved many people to rethink the potential of career paths that would place them squarely in the non-QM category.”

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