Wholesale Lending Not Dead, Originators Adapt to New Environment

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I’m in Orange County, CA this week and today’s job news doesn’t surprise.  Traffic in Orange County last night was horrific.  It took me 30 minutes to drive 7 miles on the 405.  Somebody is hiring because people are back on the road again at rush hour.

I visited a mortgage bank yesterday that is doing very well in the third party origination business.  The Company has a national presence with just under 80 account executives.  They are originating GSE and FHA loans from 1000 brokers.  As expected, most of the business is originated by 20% of the approved brokers.  They are managing interest rate risk through mandatory commitments and making some serious gain on sale margins. 

Are they profitable? 

Better than some of the better retail shops I’ve visited.

We heard this over and over again this year:  The wholesale business is dead and brokers aren’t going to survive. Everyone hates this business model from warehouse lenders to investor and especially regulators.  

I disagree with the naysayers.  Yes this channel will shrink.  It will shrink because weak brokers can’t make a living in the new environment – originating low margin full doc loans.  It will shrink because some wholesale lenders won’t be able to raise the capital to meet the requirements to originate TPO business – this continues to increase.   These lenders either have major repurchase issues with ALT/Subprime loans they originated previously or they aren’t profitable. 

I have one other observation:  It appears that wholesale lenders who move to mandatory commitments and enforce strong lock policies appear to make very good profits and originate high quality loans.  Lenders who continue to use best efforts delivery have two things to deal with it:

First, there is a wide pick up from mandatory to best efforts price.  This can be used to provide a sharper price to brokers and/or generate higher gain-on-sale margin.

Secondly, the higher quality loans seem to land at the mandatory priced shops.  Smart borrowers with good credit, know their worth and want a sharp price.  The result is wholesale lenders playing in the best efforts sandbox end up with the more marginal loans.  These loans cause higher fall out and touches by operation staff, creating more cost for the wholesale lender.

 “It is not the strongest of the species that survives, nor the most intelligent that survives. It is the one that is the most adaptable to change.”

Charles Darwin