As we exit the era of easy mortgage credit some hints as to what the next era of Mortgage Originations will entail are emerging. Gone are the armies of investors willing to buy mortgages and turn them into securities. In 2006 in preparing a plan to build out investor guidelines for an automated underwriting service we uncovered 65 investors with 760 products and programs represented an estimated 80% of the market. Smaller, one-off investors brought the total well over 100.
We now have fewer than 20 substantive investors with the broad majority of loans bought by seven: Fannie Mae, Freddie Mac and the top five banks. Gone are the endless variety of programs and products that each investor offered in an attempt to attract more business and to serve increasingly unique markets. There are a handful of available conventional loan types to choose from, period.
The retrenchment has been painful for all participants, from borrowers to investors and to the US taxpayer. In terms of industry players, according to Implode-O-Meter, since late 2006 371 major U.S. lending operations (mortgage banks, conduits and investors) have failed. Along with those failing lenders are rates and quantities of defaulted loan payments, foreclosures, home abandonment, and destruction of neighborhoods not seen since The Great Depression. One measure of the scope for homeowners is that according to US Treasury, reporting on only the Making Home Affordable Program through October 2009, there are 650,000 Trial Modifications underway out of 900,000 offers extended to borrowers and 2.75 million borrowers have been sufficiently concerned to receive the form needed to apply. That’s three million homes asking for help. And in response, Linda Simmons reminds us, “Industry innovators are doing workouts, not production.”
Still, while we work through that a new origination world is emerging that has many of the ”local banking” hallmarks of a bygone era while taking advantage of the healthy aspects of the leverage engine built over the last quarter century but misused in the mortgage meltdown.
And these companies are hiring. As Rob Chrisman notes, "the number of mortgage companies which are interested in expanding. For example, First Centennial Mortgage, out of Illinois, is sending out e-mails looking for originators. First Priority Financial, a retail shop out of California, announced that they were buying Austin Perry Financial, a wholesaler also based in California. CMG Mortgage has been expanding, as has Opes Advisors, Stearns Lending, American Pacific, etc., etc. (just a small sample from here in CA) – the list goes on. This is an interesting trend, as perhaps small to mid-size bankers are indeed seeing the origination “pie” shrinking in 2010, and are looking to maintain volumes and increase market share. An the hiring is not only taking place in the loan officer area but also operations and back office support."
Most current mortgages are so-called conforming mortgages. They are approved by Fannie Mae or Freddie Mac and, compared to 2005-2007 are conservatively underwritten. Since it is safer to loan to someone that is known to the bank (instead of through a broker) banks are performing loan origination almost entirely with in-house loan officers and local branches, especially for so-called community bankers are doing great business. Being local, in the community that the loan is being made, is a key method being used to try and mitigate this risk.
What is different from the days of 760 products is that each of the investors that are offering to buy the conforming Freddie/Fannie loans are layering on extra conditions to ensure, really ensure, that the loans will perform. One reason is that with all of the disruption in the markets noted above it’s very hard to estimate the value of a house and thus the risk being taken by borrower and banker and the acceptable amount of money to lend. With the disruption in employment having a large current impact on mortgage default rates credit risk is a sensitive issue to investors. With the dismantling of easy credit through the dissolution of the sub-prime market fraud risk has become a much more significant concern to mortgage bankers than just a few years ago.
If originators don’t apply extra filters then loans fail they will be forced by the investor to repurchase the loans. The cost to the bank of this is crippling, a handful of repurchased loans wiping out profitability of a quarter’s worth of originations and all the work that went into them. Quoting Linda Simmons, “Despite some fuzziness in the process, investors want no surprises in pricing/fees, compliance and eligibility when a loan is delivered. None, zip, zero surprises.” Bankers respond by gathering far more data on loan applications than recently and by underwriting and re-underwriting loans prior to submitting them for approval.
Additionally, in the near term interest rates are very low. Jay Brinkmann, the Mortgage Bankers Association’s chief economist and senior vice president for research and economics is predicting that rates will rise through 2010 (though to what level and when is hard to predict). If he’s correct it makes it less likely that borrowers with newer mortgages will refinance. Why go from a low mortgage to a higher one unless you have to move? This reduces the rate of early prepayment of mortgages and enhances the value of mortgage servicing rights. Bankers see this and are increasingly retaining servicing rights to ensure longer term profitability where a few years ago they would sell them and take the cash to invest in more originations. The exception appears to be for FHA and VA loans. These loans prepay for a variety of reasons, including the sale of the house (when the mortgage is not assumed), refinancing, delinquency buyouts, and liquidation (without being bought out first). Most analysts expect delinquencies and liquidations to increase in the coming years for these loans.
There’s lots more data in the system and no respite in the number of decisions an originator has to make to complete a loan. In fact, the number is up. All these decisions based on all this data mean lots more forms to fill out, get signed and reviewed and notarized. Profitability may be fine in the short term but eventually a better way will emerge. There’s a lot of manual activity here.
Working on Step 2
Perhaps the layering of requirements by investors will abate and the exposure to risk will diminish. While you’re waiting for that here are some technologies to look for in Mortgage Originations.
Managing the raft of decisions is a big goal. An easy, or easier way to tell your operation what are the terms and conditions available and acceptable by loan type by investor by geography and, if needs be, by shoe size and eye color. This requires far easier addition of new criteria for loan decisions and far easier manipulation of the combinations of requirements across loan type by investor by geography and, if needs be, by shoe size and eye color.
Easier addition of loan criteria is more than flexible data bases. Most technology allows for the addition of variables (though one should be careful here). Once added, getting them into the operational flow, onto the screens of users and into the decision criteria is relatively hard.
My personal fantasy, a room for the lock desk and secondary markets pro’s with a large screen, enabled like an iPhone, being used to stretch or contract DTI and LTV ranges, to swipe in or out documentation needs, to quickly look at and compare one investor versus another. Allowing a mortgage banker to have control of the rules is one thing. Making that control operationally intuitive would change the game. Perhaps only the mega-producers will be able to afford this. Perhaps “the cloud” will bring it to a community bank near you? Some people will revisit business process outsourcing as a method to achieve the same goal by contracting with BPO providers who will commit to support the myriad changing combinations of requirements for a fee.
Regardless, everyone wins if something aggressive is done about the paper chase. Regulations and procedures like HVCC increase the likelihood that actors in the origination process will not know each other or even see each other. Sending paper versions of loan applications, credit reports, appraisals, inspections, income verifications and the like to all participants who need to see, review, comment, edit or approve them is very expensive. eDocument solutions are in use today that mitigate and or eliminate the movement of paper, speed the approval of loans in origination or modification status, and secure the transmittal of information. Far broader adoption of these solutions should come and come soon.