The GSEs announced a big hike in loan-level price adjustments for loans being delivered with lower downpayments and lower credit scores.
These layers of risk are presumed to require significant risk-based pricing adjustments and these adjustments will become effective as early as April of next year. Many lenders may need to build these new costs into their rate sheets even sooner than that.
Which begs the question: Why is this being done, and what does it mean to the market? Is this an example of government overreach or an example of the free market in action?
Well, the reason for the increase is most certainly that the FHFA, through these adjustments, is trying to encourage private capital into the market by making delivery of these loans to the agencies more expensive. Many critics of the industry have maintained for some time that the agencies were too dominant in the funding of new mortgages, and that the “free market” should be encouraged to get private capital back into the market, providing a range of outlets for such borrowers.
Will charging more for a certain segment of borrowers (the riskier ones) encourage others to move into that marketplace? We have seen just that, as some nonagency loan options are now priced lower than agency loans. And that was the result of the previous round of higher g-fee changes as these products appeared before the latest announcement of LLPA adjustments. These new investors realize that they can make money on certain segments and are willing to price the loans below agency pricing.
This was a pretty amazing development and shows, at least at some level, that alternative sources are coming into the market and are competing for share by offering lower pricing options for certain types of loans. That is an encouraging “free market” development.
The other possible impact is that banks with their own ability to portfolio loans will have a real opportunity to deepen relationships with their customer bases by offering some attractive loan options. We had a client that contacted us just this week to review their plans to offer a series of nonagency, long-term ARMs and fixed-rate options, priced well below agency product, and wanted to develop a series of marketing initiatives to find bank customers who may be in the market for loans.
So, in this case, they realize that they have a product that should be attractive and are thinking aggressively about how to take marketing advantage of the new pricing environment. Other banks may decide to follow that trend as well.
There are also some regional banks in the market for assets that may wish to buy loans from quality originators in the marketplace. So, if you’re a strong, well-managed retail nonbank originator then perhaps you can establish local relationships with banks that would buy loans from you even if they were not a typical loan aggregator or loan buyer. This could give a retail originator a competitive advantage in their fight for market share, while giving the bank an opportunity to acquire household relationships in their marketplace.
So, as a mortgage banker, what should you do to get ready? First, you should be sure that you are well staffed in secondary and are exploring alternative sources of financing in the marketplace. We have talked to a lot of companies that need to sharpen their skills in this area, as they have been too reliant on agency and government-insured product for such a large percentage of their business.
Many in the mortgage industry have opined about needing to allow free market forces to work and to shape the industry going forward. Well, that is what will certainly be needed—the free exchange of business relationships between those that can originate loans and a wider array of loan buyers who are willing to fund them.
Success in the free market is not “free,” and the most successful mortgage bankers may be those that invest in the people, processes and technology to exploit this new market dynamic.
Garth Graham is a partner with Stratmor Group, and has over 25 years of mortgage experience, from Fortune 500 companies to startups, including management of two of the most successful mortgage e-commerce platforms. He was formerly with Chase Manhattan Mortgage and ABN Amro, where he was a senior executive during the sale of its mortgage group to Citigroup.