Changes in G-fees, MI Levels and Risk Pricing from GSEs? Improving Commercial Real Estate?

It used to be that people who walked down the street arguing with nobody there were deemed "crazy".  When cellphones first got overly popular, my mother suggested that dead ones be issued to all who wanted them, so that those with those forms of mental issues could achieve social acceptance. It appears that that happened, and in many cities the area is swarming with them. My cousin suggested an idea for a TV game show, "Bluetooth or Crazy?"  The contestants are shown a brief clip of someone on the street apparently talking to themselves in an animated manner, taken from the non-headset side, and then have to guess which it is, Bluetooth or crazy?

Residential and commercial real estate are often loosely tied together, although commercial real estate is usually much more of a "numbers game." Capitalization rates have been found to be good indicators of expected returns in commercial properties, and the SF Fed points out that recent declines in these cap rates appear to be signaling a commercial real estate rebound, indicating improved investor expectations of price growth in the market. It is good to hear, and I hope that they're correct.

For those out there rooting for the non-agency market to come roaring back, there is a step in the right direction. Pricing engine Optimal Blue has released Redwood Trust's Jumbo Fixed and ARM products. Redwood has seen a solid increase in their number of clients, percentage-wise, in the last year, and with good reason. At this point Redwood Trust appears to be the only issuer of new home-loan securities without government backing in quite some time, and last week Fitch announced it will be rating a Redwood pool ($375 million of jumbo mortgages, average balance of $793k, 80% from First Republic Bank & PHH).

On the agency side, investors were buzzing yesterday about a speech given by the Acting Director of the FHFA, Edward Demarco. There is consideration being given to loosening guidelines or reducing fees in conjunction with an expanded HARP offering - but HARP is not a mass refinancing plan, although one can expect an increase in guarantee fees. "Loan level price adjustments, representations and warranties, valuation requirements, and portability of mortgage insurance coverage are among the matters being considered." But, "It ought to be clear to everyone at this point that the Enterprises will not be able to earn their way back to a condition that allows them to emerge from conservatorship."

There is a lot of conjecture at this point what this all means. If the guarantee fees historically charged by Fannie & Freddie were too low, relative to where they would have been in non-government-backed world, then they will increase. (As a reminder, g-fees are charged to lenders for bundling, servicing, selling and reporting MBS to investors, along with protecting against credit-related losses in the mortgage portfolio.) "Private firms would likely target a higher rate of return than the enterprises and the market would demand higher levels of capital," DeMarco said. "I would anticipate that the enterprises will continue the gradual process of increasing guarantee fees." Demarco also proposed risk-based pricing across more product types and characteristics, limited geographic pricing, and the elimination of volume discount of g-fees to lenders.

So increasing the g-fees is in the cards. So is reducing cross subsidization across products type and characteristics. This has the potential to hurt weaker credit borrowers through higher pricing - but, frankly, isn't that the way much of lending works? One can also expect to see differential pricing across geographies to better account for risk, local laws, foreclosure timelines, etc. (This would indicate that judicial states with extended timelines - such as NY, NJ and FL - may see higher fees compared with non-judicial states such as CA.) We could also see an increase in the amount of MI, perhaps moving the MI requirement threshold below the current 80% LTV, although at this point, asking the MI companies to take on additional credit & financial risk is an issue.

I received a few thoughtful comments about, surprise!, compensation. "It is not surprising that the reader who wrote he would earn the same at the 'large lender' with either comp plan because the comp plan is written to allow banks to continue paying their originators basically the way they always have.  The issue is how it radically changes the way originators at broker shops are paid, forcing brokering originators to be paid as bank employees.  The differences in originator compensation between bank and broker are primarily due to the originator at a broker shop being much more involved with the entire loan process than an originator at a bank.  There are many other problems with the comp rule, but here are four more:

"There is no data documenting the need for the originator comp rule.  Nor is there any data showing it will provide any benefit or that it won't have any negative consequences.  There were and are maximum revenue laws in place that are already more limiting of brokers than lenders and banks.  The comp rule is a poorly conceived knee jerk reaction to events which had nothing to do with compensation.

"The comp rule limits the free market ability of brokers to compete against banks.  Brokers used to account for nearly 70% of all originations.  Now that figure is down to about 9%.  This shows just how effective this (and other) legislation has been in eliminating the broker's ability to deliver benefit to consumers - to the benefit of banks and the detriment of consumers.  It is government imposed pricing inflexibility without it 'technically' being price fixing.

"The comp rule wrongly assumes all borrower scenarios are created equally.  They are not.  Many borrowers contact a broker after they have been denied at a bank. It's like telling a housing contractor they can only earn x% of the materials used to replace a roof, regardless of how many floors high the roof is, it's pitch, or its size.  The pricing criteria are completely ignored.  How about legislation that mandates retailers sell every product at the same margin?  Or car dealers sell every car at the same margin?  Or restaurants sell every meal at the same margin.  It is the same with loans, they are all different.  This legislation, like HVCC - 'Appraiser Independence', hardly seems legal.

"The comp rule wrongly treats revenue as a determinant of whether a consumer is getting a 'good deal'.  It ignores that wholesale lenders provide a range of compensation for the same rate, depending on borrower scenario's or the strictness of their underwriting.  A broker can use the 'easy' lender with a higher rate instead of using the 'hard to approve' lender who has the lower rate and earn the same, but the consumer does not benefit.  If the broker is willing to use the 'hard to approve' low rate lender, he should be compensated for the additional work while at the same time being able to deliver more favorable terms to consumers."

For the second quarter, who were the top correspondent lenders/investors? In order of dollar volume, Wells Fargo, BofA, Chase, Ally/ResCap (GMAC), CitiMortgage, Flagstar, PHH Mortgage, U.S. Bank Home Mortgage, BB&T, Franklin American, SunTrust, Hudson City Savings Bank, NYCB/AmTrust, Provident Funding, MetLife Home Loans, Astoria, HSBC, M & T Mortgage, Nationwide Advantage Mortgage, Crescent Mortgage, EverBank  Mortgage, Regions Mortgage, Fifth Third Mortgage, Colonial Savings, Midland Mortgage, Cimarron Mortgage, and Stearns Lending, per the National Mortgage News.

"Very little has changed in terms of housing market conditions so far this year," said NAHB Chairman Bob Nielsen upon the release (downward) of the NAHB/Wells Fargo Housing Market Index. Well, that pretty much sums it up, which explains why builder confidence is not going ape. "Builders continue to confront the same challenges in accessing construction credit, obtaining accurate appraisal values for new homes, and competing against foreclosed properties that they have seen for some time. Beyond this, both builder and consumer confidence took a hit in recent weeks with the market disruptions caused by the S&P downgrade and congressional gridlock on the budget deficit."

Yesterday, as one trader noted, "Another day and still nothing progressively notable has come from the EU regarding Greece." Stocks worsened and Treasuries rallied, although they don't always move in opposite directions. U.S. 10-year notes in particular surged about 1.125 in price with the yield declining through 2.0% to 1.94%. But between the higher prices, EU uncertainty, looming FOMC meeting and government refi worries, MBS investors had lots of reasons to not get too involved although MBS prices closed higher by over 1/2 to nearly 3/4 of a point on 30-year 4's down to 3.5's.

But outside of EU headlines, with a little progress in Greece seeming to temporarily outweigh S&P's downgrade of Italy, today's calendar is pretty light. The Fed starts its meeting. And we've had Housing Starts and Building Permits. Permits came in at 620k, up slightly, although Starts were down 5%. The news didn't move rates too much, and the 10-yr is around 1.98% and MBS prices are worse by about .125.

(This is the video of a joke I published a few years ago. Give it a minute - it pretty much sums up my life....): .

If you're interested, visit my twice-a-month blog at the STRATMOR Group web site located at www.stratmorgroup.com. The current blog takes a look at the recent news concerning REIT's, and the possible tax implications. If you have both the time and inclination, make a comment on what I have written, or on other comments so that folks can learn what's going on out there from the other readers.