• Tue. Feb 27th, 2024

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Bankers’ Hours column: The mortgage app freefall of 2022

More news is coming in about the dramatic, even astonishing, drop in new home mortgages as the home loan lending business absorbs simultaneous shocks of spiking interest rates and inflation.

Right now the residential mortgage production business is going through a typical tailspin, one of many since the end of World War II and the advent of long-term mortgages for home buyers. 

Veterans of mortgage finance watch these cyclical implosions with interest and, if we’re viewing from the grandstand, are actually entertained as we compare previous collapses in mortgage origination.

It’s intriguing to see similarities between now and the six years leading up to the Great Meltdown of 2008. Back at the end of 2001, long-term residential mortgage rates were hovering between 6% and 7%, as they are today. Mortgage-backed securities were triggering a feeding frenzy of investors, from individuals to sovereign funds. Financial enterprises like Countrywide and IndyMac Bank, sporting an innovative business model based on mortgage production, were ramping up to fill the MBS hunger, and make a lot of loot in the process.

Loan production was moribund then; borrowers had refinanced out of the double-digit interest rates of the 1980s, or sold out and moved on. Housing supply and demand were more or less in balance. The solution was simple: if you need to lend more money, then make more money easier to borrow. Thus the Toxic Mortgage, the stated income home loan and its septic siblings that led to the Great Recession of the first decade of the 20th century.

For the past three years, it’s been back to the gold rush for mortgage producers, an industry now driven by non-bank mortgage companies like Rocket Mortgage, of which you’ve probably heard, and United Wholesale Mortgage, of which you almost certainly haven’t, unless it’s servicing your mortgage. Non-bank lenders now originate two-thirds of the residential mortgages made in the U.S.

Leading up to and during the pandemic, interest rates dropped to the lowest level in post WWII history.  Just about everybody had a higher rate home loan that they could refinance and save a bundle in debt service. At the same time, home values, fueled by scant supply, were spiking, resulting in an instantaneous increase in equity. Which meant that those same homeowners could take advantage of that higher home value, which was shooting up faster than Elon Musk’s debt number, and get a cash out mortgage, again at that ridiculously low rate that everybody thought was normal (it wasn’t).

We should note that federal regs now say lenders should ascertain that a borrower have a good reason to refinance a primary residence for extra cash. We should also note that just about everybody that wanted the flash cash could show a compelling reason to get it.

The business model of both Rocket Mortgage and United Wholesale Mortgage is based on making residential mortgage loans and selling them. Each, however, handles production differently.

According to a recent article In the Wall Street Journal, in 2021 Rocket was the nation’s largest mortgage originator by dollar volume at $351 billion. You’re right, that’s a lot of loans. So far this year, the company’s origination volume is on pace to be just 50% of that amount and, right again, that is a very big fall-off in business..

Why? Is it because of the doubling of interest rates? Only partially; for the past few years when lenders and borrowers were enjoying the nirvana of preternaturally low interest rates, Rocket concentrated on refinancing home loans, both rate reduction and cash out. (Yes, lenders love low rates because they make money off fees when they fund a loan). Rocket makes relatively few loans to buy homes.

In the mortgage origination business, as the saying goes, “Live by the refi, die by the refi.”  Circumstances can combine to dramatically curtail refi requests; but people do continue to buy houses — they just buy fewer when rates are high.

So, in Rocket’s case, just about everybody who could refinance to get a lower rate, had done so. Still, Rocket and others with the same production protocol could ride the tide of swelling home values to sell existing and past customers on the concept of taking virtually instant equity out of their home, and replacing that low-rate loan for, say, a 6% to 7% mortgage in exchange for a big chunk of ready cash. In August of this year, 96% of Rocket’s production was in the form of cash-out loans.

In lending you can only go to the well so many times until the bucket starts coming up close to empty.  Naturally, a producer like Rocket is downsizing rapidly, mindful of the Ghost of Meltdown Past looking over its shoulder. That can be a painful process for a firm like Rocket because most of the operation’s LO’s (Loan Originators) are salaried employees, with big production bonuses. As any business owner know, attrition is expensive.

United Wholesale Mortgage sees it differently. It works with mortgage brokers, who are nurtured and coddled, especially if they show loyalty to UWM in loan submissions. The company will train a broker owner and support staff by paying expenses to go to company headquarters to be trained as one of UWM’s own. There’s relationship cost but no attrition expense when things go south, as they always do in the mortgage business. And, because UWM works with brokers, the company will get a lot of purchase money loans, mortgages to buy homes, mitigating the downturn in the refi sector.       

Will Rocket and UWM survive current events? Probably, for a couple of reasons.

First, both keep the loan servicing on a certain amount of the loans they make and sell. They make income on this total off balance sheet revenue, generating asset, and it’s handy to have when production falls.

And both concentrate on conforming conventional loans — those that meet Fannie Mae and Freddie Mac guidelines — and a lesser amount of VA and FHA loans. In other words, they’re making loans to borrowers who, at the time of closing, can afford to repay the mortgages.

There’s only one way a bank or mortgage company can go broke: by having bad assets (loans). That fundamental was ignored leading up to 2008.

Maybe we’ve learned our lesson.

Or not.

Pat Dalrymple is a western Colorado native and has spent more than 50 years in mortgage lending and banking in the Roaring Fork Valley. He’ll be happy to answer your questions or hear your comments. His email is [email protected].


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