The 10 Year IO Revisited
The 10 Year IO – should investors be scared?
No. Even though the payment shock at the 10 Year IO expiration is quite scary for most products, the percentage of loans defaulting 12 months later appears to be small. The data shows that the default rate is highly dependent on the borrower’s prior payment history and to a lesser extent the equity they may have in their home and the severity of the shock. Those borrowers with near perfect lifetime payment history default at a dramatically lower rate than those with less than near perfect lifetime payment history. With equity in the property, the performance gets even better. The payment shock does have an effect on performance, but the effect on performance is muted by the high percentage of loans with near perfect lifetime pay history (90%) combined with the high percentage of properties with equity (77%). After reviewing the deals, we can’t find many that really scare us at the 10 Year IO expiration (see page 8). We include historical performance strats on two deals that experienced a significant 10 Year IO expiration to further prove our claim (page 9).
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