We attended the national MBA Convention in Chicago earlier in the week and hooked up with many of our business partners and friends. Everyone we talked with, whether they were mortgage bankers, warehouse lenders, investors or service provides, was upbeat and positive about 2012. Production, revenues and profits are up and everyone is upbeat about 2013. Most of the folks we talked do not anticipate rates rising in 2013 and expect their companies to generate good profits again next year.
Many of our friends were “old timers” with 35 years plus experience in the business and had been through several cycles during their industry tenure. Being one of the “old timers”, it was fun to catch up and reminisce about the “good old days” of mortgage banking. As we were discussing the 1980s and 1990s, it became clear 2012 was starting to look a lot like the years past. Let’s look at some of the similarities:
1) Products: Product offerings today are very similar to the product offerings of the 1980s and 1990s. Most mortgage bankers during this period originated generic loan products that could be sold to the agencies or aggregated into GSE or GNMA securities. Mortgage bankers offered jumbo products, but it composed a small percentage of overall originations. As we review companies in 2012, ≈98% of products originated and funded are GSE or government insured eligible loans.
2) Secondary Market: During the 1980s and 1990s most loans were sold to FNMA, FHLMC or pooled into GSE or GNMA securities that were sold to broker/dealers. The secondary market today is primarily the GSEs or investors buying securities backed by GSE eligible or government insured mortgages. There is a group of national and regional secondary market aggregators that purchase loans from mortgage bankers and pooled the loans into GSE or GNMA securities. However, most of the companies we have visited in 2012 have agency approvals or are quickly trying to obtain their approvals. The mortgage bankers all want to sell directly to the agencies or pool their loans into securities.
3) Servicing and Mortgage Servicing Rights (MSR): During the 1980s and the early 1990s, servicing was an off balance sheet asset. Servicing revenue was booked as it was collected from borrowers; it was not present valued and taken into income when servicing was originated as it is today. Servicing was considered a hedge against rising rates: As rates rose, the servicing income helped to cover expenses as revenues dropped due to a decline in originations.
During 2012, we’ve seen a steady decline of MSR values companies reflect on the balance sheet. Some of the movement is related to the 3rd party valuators assessing servicing values lower than years past and/or companies taking the position they want to use a conservative present value calculation when booking the MSR. A common theme is that operators view servicing as future revenue source if they use a conservative MSR value up front. After the MSR asset has been amortized, the servicing revenue is both a cash and revenue event. MSR should be calculated and reflected on the P&L and balance sheet to comply with GAP. However, the drop in MSR values is starting to look like servicing is becoming de facto off balance sheet asset. It seems odd that MSR values are dropping when rates are at historical lows and loan quality is the highest in years.
One area that is very different today is the level of capital required to be a mortgage banker. Though some warehouse lenders and investors may only require a minimum of $1M, operators really need $2.5M or higher to be eligible for agency approval, obtain needed privileges from most secondary market investors and have access to the best secondary market execution. When I launched my company in 1989, agency approval was $250K. Based on inflation, that would be $446K today. The barrier to entry have increased tremendously and we believe they will continue to increase.
C. M. "Corky" Watts, CMB
Cameron Watts, CMB