Fitch: Stable Performance Continues for U.S. Prime & Alt-A RMBS in 2006.

NEW YORK -- U.S. prime and Alt-A mortgage asset performance will remain stable in 2006, reflecting the strong economy and limited exposure to payment shock given concentrations in fixed and long-term ARM mortgages, according to Fitch Ratings. The refinancing trend is expected to continue, albeit at a slower pace as rates rise. The prospect of higher rates on adjustable mortgages will increase the percentage of refinancings into ARMS with longer fixed periods, fixed rate mortgages, options ARMs and 40-year mortgages. Rating volatility is projected to be positive, as substantial prepayment-driven deleverage of structures will allow for mezzanine class upgrades.

Subprime mortgage asset performance will decline in 2006 from the excellent performance experienced over the last two years, as higher rates and slower home price growth curtail the cash-out refinancing boom and cause some borrowers to experience payment increases on ARM loans. Delinquencies may rise as much as 10%-15% from current levels. Despite this, high prepayments and strong loss performance to date have allowed bond credit enhancement to build rapidly and should help protect bonds from the expected decline in loan performance.

Net interest margin transactions (NIMs), which are typically backed by subprime collateral, will confront similar challenges, with the added consideration that excess spread in the underlying securitizations is expected to be less robust than in the past. Downgrades of NIMs, particularly subordinate classes, may become more frequent.

Specialty product performance is expected to be stable on the whole, and although deal performance will be mixed due to the heterogeneous nature of the collateral, issuance of specialty products, unlike the rest of the RMBS sector, is expected to grow. Better credit quality scratch & dent should perform well, whereas more subprime-like assets may experience pressure. It's likely that specialty deal downgrades will exceed upgrades as these assets tend to prepay more slowly and thus de-lever less quickly. Manufactured Housing performance has stabilized; however the levels of default and loss are still quite high, and not expected to improve much in 2006. While Fitch doesn't anticipate much additional need for MH rating actions, downgrades will exceed upgrades.

The U.S. has experienced unprecedented home price appreciation, rising to its highest level since the inflationary period encountered in the early 1970s. Continued price increases are the result of many factors including gradual improvement on the employment front, continued low mortgage interest rates, more affordable and innovative mortgage products and, to a certain extent, the impact of speculative investing.

As of September 2005, mortgage originations had increased by 20% from third-quarter 2004 (3Q'04) and the national home price growth index went from 10% as of 2Q'04 to over 13% as of June 30, 2005. Underpinning the strong run-up in the mortgage market in 2005 has clearly been the ongoing trend of low interest rates -- despite the fact that the Fed has ratcheted up the Fed Funds rate by 300 bps since June 2004.

Because long-term rates have been rising throughout 2005 relative to the lows of recent years, prepayments have slowed and originators have been introducing new products to mitigate the effects of these higher rates. In 2005, Fitch saw the introduction of the 40-year mortgage, and the ascendancy of the Option ARM; two affordability products that have had success attracting borrowers. These affordability products join IOs and ARMs as the main tools for originators as they attempt to counteract the effects of the Fed's tightening.

Prime collateral has performed positively during 2005 and is reflected in the positive rating activity seen year to date. As in previous years, Alt-A bonds have not enjoyed as strong of an upgrade to downgrade ratio as Prime pools in 2005. However, a number of upgrades in early October have already improved the upgrade to downgrade ratio and it is expected by year-end that the upgrade to downgrade ratio will be positive. The combination of adverse selection and a relatively high delinquency trigger threshold due to unexpectedly high prepayments may create some downgrade pressure for bonds in recent vintages in the Subprime sector.

Fitch's 'Global Structured Finance: 2006 Outlook and 2005 Review' includes asset performance and rating volatility forecasts for the global ABS, CMBS, RMBS and CDOs sectors in 2006, along with how broader macroeconomic trends will influence the structured finance markets in the U.S. and overseas, and an overview of rating performance and credit migration trends over the past year. The report is available on the Fitch Ratings web site at www.fitchratings.com.

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