Throw-Away 2nd?!

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Posted by David Butler on December 01, 2005 at 20:04:26:

In Reply to: Who buys balloon payments on 2nd notes (lump or payments)? posted by Jeffrey D Smith on November 30, 2005 at 13:28:36:

Hello Jeffrey,

You haven't provided enough information to know for sure, but be aware that not many folks will be interested in purchasing a balloon-only payment on a 2nd position note (especially a "straight" note), even under the most extraordinary circumstances.

A couple of other very safe "rules of thumb" to be aware of:

1) 2nds are much higher risk than senior paper
2) Buyers demand equity protection, and much higher yields as a result

3) 70% Maximum combined ITV is about the most you are going to see out of a buyer for an SFR 2nd, and that's if the Payor has PDG credit.

For example, property value (or sales price, whichever is less) is $100,000. 70% Max. ITV is $70,000. Subtract balance owing on senior note, and any remainder is about the most an investor will pay for the 2nd position note. Obviously then, if the senior note is 70% or more LTV, there is nothing left for investor to use to safely purchase 2nd position note.

4) Most 2nd position paper buyers prefer ratio of 2:1 of senior note balance in relation to 2nd note balance; many will stretch that to 3:1 if other parts of deal are compelling enough; and occasionally to as much as 4:1 in rare special circumstances.

For example, senior mortgage balance is $50,000 - buyer for 2nd would prefer that 2nd is for $25,000 (2:1); he may live with $16/17K (3:1); and in unusual circumstances, he might live with 2nd balance as low as $12,500 (4:1) ratio.

Sorry I can't offer better news in that vein. But... also be aware that YOU can gain some value out of that paper by using it as "trade-bait" for something else, if you are in the market for something else!

David P. Butler

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