CFPB on Small Lenders and the Cost of Compliance; Does Hedging Mean Free Lock Renegotiations?

41 million people in the U.S. who are 65 or older, up from 40 million on April 1, 2010 (Census Day). This is over 13% of the population.  The projected population of people 65 and older in 2060 is 92 million, which would be 20% of the population!

CMC, along with several other companies, hedge pipelines, which reminds me of a note I recently received. "Rob, I work for a mid-size wholesale company as an AE. My brokers say to me all the time, 'You guys hedge. Why are you so strict on extending rate locks, or renegotiating them?' What should I tell them? Whenever I ask my secondary guy, the explanation seems like some guy's PhD thesis."  First of all, from a company's point of view, you should probably stick with your secondary guy's explanation - we usually try to stick together.  But...

What I usually tell folks is that just because a company is hedging doesn't mean the broker or borrower can ignore an agreement.  On their part, the company has agreed to honor that lock, regardless of what rates do - shouldn't the other party honor it as well?  The argument that, "A lock applies to them but not to me" carries little logic, and brokers and borrowers need to be reminded of that.  Hedging or not, the lender cannot ignore market forces.  Companies hedge against changes in the price of oats or wheat or pork bellies, but that doesn't mean they ignore changes in those markets.

Lenders typically hedge using sales of generic mortgage-backed securities, with the exact pool characteristics to be announced (TBA) later.  Since the lender is, in effect, "buying" the loan in the primary market, to hedge this the lender sells an MBS.  And it sells that MBS to a broker-dealer such as Morgan Stanley, Atlas Capital, Cantor Fitzgerald, or any of the dozens of other firms that make a market in these securities.  If the market moves, these dealers don't renegotiate the price of an MBS that they purchased.  And a lender that is hedging its pipeline can't call up and tell Goldman Sachs, "Uh, you know that $10 MBS we sold you a couple weeks ago?  Well, we're getting ready to deliver the loans, but the market has improved, so we want a better price or we'll deliver them somewhere else."  The lender is bound to that price, just as the Wall Street firm is bound to that price - it is a contract.

Lastly, and this issue was raised in this commentary a few weeks ago, the industry is very sensitive to the CFPB's focus on disparate lending practices.  The entire ability to renegotiate a rate lock is subject to debate, since it opens the process up to the question, "Are you giving an unfair advantage to a borrower or broker and not to another borrower or broker who didn't renegotiate their lock?"  And that really does open up a can of worms!

While we're on industry-wide issues, I received a short plea from the owner of a small mortgage bank in North Carolina: "The cost of compliance is killing us, and we're thinking about joining up with a community bank. We can't be alone - do you think that the CFPB really thinks that companies merging or exiting really helps the borrower?"  The CFPB has publicly announced that it is well aware of the cost of compliance, and its impact on lenders - and the fact that those lenders pass that cost along to the borrowers.  What, if anything, will be done about it remains to be seen.

Know that the Consumer Financial Protection Bureau is expected to release its final mortgage rules in the next few weeks, and soon lenders will have to underwrite loans to fit the so-called "qualified mortgage" and ability-to-repay rules, among other requirements. While lenders will be scrambling to meet the deadlines, the CFPB faces its own challenges in implementing rules throughout this year dealing with servicing, disclosures, loan originator compensation, high-cost mortgages, and appraisals.  One of those future processes is consolidating the mortgage disclosures for the Truth-in-Lending Act and the Real Estate in Settlement Procedures Act (TILA & RESPA) expected to come out later this year. American Banker recently did a story on the status of things.

For example, "How do you respond when bankers say they can't afford to comply with all the rules or don't have efficiencies and scale to do this?"  The bureau's assistant director for regulations, Kelly Cochran, replied, "First, we are required by law to consider the potential benefits and costs of each rule we promulgate, including the rule's impacts impact on smaller creditors and rural areas.  So, we take that seriously and thought carefully about that as we went through the rulemaking.  We made a number of adjustments to the original proposals to address implementation concerns, including expanding the definition of "rural or underserved" counties for purposes of the rules on escrow accounts and balloon payment qualified mortgages, adjusting the requirement that certain loans be held in portfolio to make it easier for small creditors to comply and maintain qualified mortgage status, the fact that we proposed an additional category of qualified mortgages for certain portfolio loans by small creditors, and that we expanded a proposed exemption for small servicers under certain parts of the servicing rules.  All of those things were instances where we tried to be very careful and thoughtful in the way that we calibrated the need for regulation, the benefits to consumers, and the potential impacts and burdens on industry stakeholders. One of the reasons we think that the implementation support initiative is so important is because we know that smaller institutions do not have huge compliance and legal staff to help with the implementation process. We're sensitive to that."

"What were the key goals for the CFPB when putting together the ability-to-repay and qualified mortgage rules?"  Kelly Cochran, replied, "Our focus was on crafting a rule that best protects consumers while preserving access to responsible credit.  In implementing the Dodd-Frank Act requirements, we were creating guardrails to ensure that pre-crisis practices such as 'no-doc loans' and underwriting only based on initial teaser interest rates would not return to the market.  Yet at the same time, we knew that there was anxiety about the statutory requirements and we want to preserve access to credit in today's already very tight credit market. It was also an unusual process because the ability-to-repay rule transferred to the Bureau mid-stream from the Federal Reserve Board. We did additional research, we did a great deal of additional outreach, we reopened the comment period, and worked through all of the issues. We wanted to be really thoughtful about the way we approached that rule and its implications."

AB asked, "There were a number of proposals that were built into the final rule when it was released in January. What were the key issues that drove those added proposals?" The answer: "There were three pieces. First, we invited comment on certain potential exemptions for nonprofit creditors, certain housing finance agencies and community development and homeownership stabilization programs.  Second, we sought comment on some provisions concerning small creditors, in particular a provision to give qualified-mortgage status to certain loans by small creditors, including most community banks and credit unions, when those loans are held in their own portfolios. Both of these pieces were prompted by concerns that implementation burdens on particular types of creditors might have negative impacts on access to credit for consumers. The third issue concerned how loan originator compensation counts toward the points-and-fees cap for qualified mortgages under the Dodd-Frank Act.  There are a lot of very technical issues there in terms of how you track money as it flows from party to party in the transaction, for instance potentially from the consumer, to the creditor and on to individual employees or onto a broker. I think it's one of the most technically challenging parts of the rule."

"Where is the Bureau at in meeting the TILA/RESPA consolidation?" "We're preparing to perform quantitative testing of the forms, as well as sifting through the comments to resolve various issues in the rulemaking. Before we proposed the rule, we tested the forms with small groups of consumers, creditors, and brokers. But before we finalize the proposal, we wanted to test it with a larger group of consumers to make sure that we've got the forms right. That's really important and it's obviously critical to the mortgage market...We will be testing the forms with a diverse group of about 850 consumers in several different regions of the country.  The participants will be screened from a broader pool of potential respondents to identify people who have purchased or refinanced a home in the past or expect to participate in purchasing a home within the next several years...  Our goal is to make the guides as practical and plain-language as we can while still being accurate and useful to people who have to operationalize this."

Lastly, AB asked, "Do you feel that those exemptions for smaller institutions and rural counties really address the concerns from the community banks?" "We received extensive comment throughout the rulemaking process about potential negative impacts of the ability-to-repay rule on small creditors, and believed that the issues raised were important enough to merit further exploration. There are some very concrete reasons and data indicating that small lenders who are holding mortgages in their portfolio have a way of doing business that is often very beneficial to consumers. Based on this information, we believed it was appropriate to propose creating a separate category of qualified mortgages for certain small creditor portfolio loans. We also sought comment on whether to raise the rate threshold that differentiates qualified mortgages that receive a safe harbor under the rule from those that receive a rebuttable presumption of compliance for small creditors that make certain types of qualified mortgages. We know that small creditors may have higher costs of funds than their larger competitors, so we thought it was important to seek feedback on whether to adjust the threshold."

We've had some news out this morning. First off, after doing its weekly poll of 75% of retail originations, the MBA reported that mortgage applications were up 1.8% last week. Refis were +2.8% but purchases were -1.4% - refinancing stands at 75% of all applications. ARMs are, understandably, only 4% of applications. The Home Affordable Refinance Program share of refinance applications increased to 34% from 32% a week earlier, the highest level since MBA began tracking HARP applications in February 2012.

Rates continue to grind lower - they're great! Yes, in the last 24 hours we've had the Chicago PMI numbers, along with the ADP numbers (not great), and the usual buyers continue to buy MBS and the sellers happily are obliging - volumes were above normal Tuesday. Later today we'll have Construction Spending, and the important results of the Fed meeting. The expectations are low that the FOMC statement will indicate a potential change to its asset purchase activity at this time, and investors will likely have to wait until release of the FOMC minutes on May 22 to get more color on that discussion. Still, markets may infer the possibility through any change in the statement's description about the economic and labor outlooks from the previous statement - but basically our economy continues to grind along. The 10-yr closed Tuesday with a yield of 1.67% and this morning we're down to 1.65% - and MBS prices are a shade better.