MLOs on the Move; Pricing Overages Pay Marketing Expenses; Refinancing Borrowers from 30s to 15s; Appraisal Adjustments

Does it seem more crowded around here than ten years ago? Maybe not in Detroit, or in Kansas, but around the world, the population is expected to hit seven billion this year according to the UN. That is more than twice the number of people that lived on the earth just 50 years ago! The population is expected to exceed nine billion by 2050 and 10 billion by 2100 (few of us will be around). For the next forty years, an estimated 2.3 billion more people will be added with 97% of the growth coming from developing regions. In Africa alone, the population is expected to grow 1.1 billion, or 49% of the global projected growth, by 2050. But in some developed countries like Japan and Germany, the growth rate is expected to stay flat or even decline. In the coming decades, these countries could face a crisis as society fails to produce enough adults to care for the elderly.

"Rob, we are seeing loan officers shifting 'big time' from one lender to another. Are you hearing this from others?" Yes I am. It seems that once the comp changes went into place, everyone gave it a month or two to settle in. But now that plans have firmly kicked in, a certain portion of loan agents are playing musical chairs out there with companies.

Speaking of trends, there are a few important things of interest to note in the refinance outlook. One, I have heard from many loan agents that they are moving borrowers from 30-yr mortgages in the high 4's down into 15-yr loans in the low 3's. And that trend is being reflected in the MBS volumes that are being sold in the marketplace, with 15-yr MBS percentages creeping up. And remember all those mortgage-backed securities that were purchased by the Fed a year or two ago? The Fed's portfolio in particular has a sizeable amount of 5% coupons and lower largely made up of credit-eligible borrowers. Forecasters believe that early pay-offs over the next 12 months from the Fed will be $230 billion, up from a $140 billion outlook estimated earlier this year when interest rates backed up and prepayments began slowing. In a report from Deutsche Bank, analysts estimate a total of $575 billion over the next 12 months coming from the Fed, GSEs and Treasuries - all of which must be absorbed by the private sector as the government entities aren't buying MBS.

When asked outright, practically no loan rep that I ever ran across begrudged their company making a profit on a loan. After all, it is the owners that have their capital at stake, and the ability to make a profit is critical for any mortgage company. This topic has come up again with the recent record MBS prices that are being seen by traders and investors, yet those great prices are sometimes slow to appear on retail rate sheets. (As a quick aside, in the supermarket business, the shorter the shelf life of a given food the higher the markup, so the markup on meat is about 60%, while it is only about 26% on canned goods.) By the time a MBS price finds itself on the lender's  rate sheets, profit margins, hedge costs, competitor's prices levels, overhead, cost of funds, etc., all take a piece out of the pie. Loan reps should keep that in mind.

Under the, "Hey, if you're going to downgrade our debt, we're going to look into how you miss-rated mortgage securities five years ago..." category, the U.S. Justice Department is investigating whether or not S&P erred in rating MBS's: FULL STORY. Somehow Fitch & Moody's, which just confirmed their highest rating for U.S. debt, aren't in the headlines.

Last week I noted an opinion from an attorney who specializes in mortgage banking. (It included "The terms 'overage account,' 'points bank,' and 'bonus account' are all non-specific, non-legal terms.  Accordingly, whether any one is 'legal' or, more precisely, whether any one is permissible under the Truth in Lending Act's new Loan Originator Compensation Rule and other applicable state and federal laws, depends of course on the individual situation.  However, as a general statement, it is certainly possible to set up such an account in a manner which is fully compliant with all applicable laws, including the new LO Comp Rule.  If properly set up and implemented, it is also possible, within limits and subject to certain restrictions, to use funds in that account for certain bona fide business expenses of the affected LO.")

I received this note from another attorney: "I suppose, to the extent the attorney is saying the account/bank is "properly set up," which, of course, begs the question...The Fed has said (informally) that any amounts or points a loan originator earns that are placed into an account or bank for any subsequent purpose constitute compensation (even though the dollars that go into the originator's pocket do not change).  Compensation must not be based on loan terms so if those points or amounts are earned on a permissible basis (e.g., loan volume), then "so far, so good" under the federal rule.  However, if those amounts are earned due to overages charged to the borrower, then that would be earning compensation based on loan terms, and would be impermissible under the federal rule. In looking at the other side of the deal...a loan originator's use of those amounts in the bank or account toward marketing expenses, assuming they were permissibly earned (as described above), that would not be prohibited by the federal rule.  (It would be prohibited to use those amounts toward pricing concessions for future borrowers.)"

Appraisal discussions continue, especially with values continuing to be a concern - what happens if all these locks taken over recent weeks don't come in at value. Or what if the appraisers are so swamped that they can't do the workload? Or what if values aren't trusted by underwriters? One analyst wrote me, "Penalties on appraisers and lenders are so steep and so arbitrary which, when combined with how appraisal assignments are made today, means there is no incentive to come in at value. Appraisers think, 'Always come in slightly below and you have protected yourself.'  Of course, the end result is that finance home prices will decline until they trade at or slightly below the cash clearing price for the home, eliminating any chance of inflation adjusted price appreciation."

An appraisal vet wrote to me and said, "I wonder if home appreciation is a thing of the past. I can foresee the underwriters or reviewers not allowing appraisers to make appreciation adjustments.  There are none right now, and thus no need to worry about it, but again I can see them in the near future not allowing it no matter how much data I have to support it, but then again underwriting could change in the next few years so who knows? Interestingly, appraiser independence is going well - I don't get calls anymore from mortgage brokers who want a free appraisal on a loan that they might do if the value is there, so that is nice. And there is more paperwork and some additional reports under A.I.R. Of course, I have made relationships over the years with agents that don't generate me work anymore either, but I am busy so I can't complain."

Here is a sign of the times: modified loans now form 10-15% of all non-agency loans from 2005-07 and are increasingly driving overall performance, especially in weaker credit sectors such as subprime, option ARMs, and alt-A hybrids. As a result, for investors projecting modifications rates, types of modifications, and the performance of those modified loans is a big driver of valuations. Barclays' conclusions are that over 25% of all loans in subprime and 10% of loans in option ARMs/Alt-B are now modified. Modification rates from delinquent loans peaked around mid-2010 and have declined from then on. They have started to stabilize recently at 30-40% lower than the highs. Debt forgiveness mods are on the rise as well, having increased from 5% to 15% over the period. Payment reductions have stabilized at 25-30% across sectors.

Across servicers, Barclays sees differences in both modification rates and in re-defaults. "Servicers such as Ocwen, Litton, Saxon and Wells continue to modify a larger fraction of loans. At the same time, their modification decisions affect re-default performance, such as lower re-defaults for SPS mods, which have a larger proportion of debt forgiveness mods. Countrywide mods perform the worst."

Along those lines, the Obama Administration's Housing Scorecard (which compiles the seemingly hundreds of releases of housing price news) was recently released and continues to broadcast mixed signals. Home prices improved slightly but our markets continued to show strain from foreclosures and distressed mortgages.  HUD Assistant Secretary Raphael Bostic said, "This month's housing data paint a mixed picture of conditions in the market - despite growing evidence of progress in the broader economy.  We're continuing to see a slight improvement in home prices and a decline in mortgage defaults as our foreclosure prevention programs reach more borrowers upstream in the process."

Turning to the markets...this morning stocks down, bonds higher - 'nuff said? Taking a quick look at yesterday, MBS volumes were down a little, but mortgage securities prices were better by about .250. The 10-yr closed around 2.17%.

This morning we're dealing with overnight news, reminding us of the volatility from last week. Morgan Stanley slashed their global growth forecast with the belief that both the US and Europe are "dangerously close to a recession" - leading one to wonder if its traders put on short positions ahead of making that public announcement. The Consumer Price Index was +.5% in July, core rate +.2%. Jobless Claims were +9k to 408k. Few folks are concerned with inflation (as indicated by bond yields!), and the Jobless Claims number is pushing stocks down more in the early going. We also have Existing Home Sales, and later the Philly Fed and Leading Economic Indicators. The 10-yr is now back below 2.10% (within 7 bps of the low yields post-FOMC) at 2.09% and MBS prices are roughly .125 better.

Recently I found out a new way to avoid any .08 alcohol issues while driving:  I went out with some friends last night and tied one on. Knowing that I was wasted, I did something that I have never done before. I took a bus home. I arrived home safe and warm, which seemed really surprising as I have never driven a bus before.