Rising Rates Putting Focus on Servicing

With loan origination volume expected to decline, many lenders are expecting their mortgage servicing operations to drive profits over the next two years.

And that is putting more focus on the factors that drive loan servicing revenue and costs, according to consultants at Pricewaterhouse-Coopers mortgage banking group.

Consultants Martin Touhey and Steve Davies of PwC outlined their concerns in a recent article in the company's consumer finance journal, arguing that lenders need to balance cost management with delivery of customer value and loan quality.

"In a rising interest rate environment, the value generated by the servicing asset tends to increase and the value generated by the production asset tends to decrease," Mr. Davies noted in a recent interview with MSN.

While plenty of ink has been devoted to staff reductions on the loan production side of the business, Mr. Touhey said that lenders are in a position to re-evaluate servicing staff levels as well. That's because loan boarding and payoff departments are less busy than they were during the peak periods of refinancing, allowing staff to be reallocated to areas such as customer service or escrow management.

He said that many servicers hired temporary employees to manage tasks driven up by portfolio churning during the refi boom and are already scaling back in those areas. Mr. Touhey said that servicers that have a detailed understanding of their cash flows and the components of those cash flows stand to do very well now that portfolios have become more stable.

The challenge servicers face is finding ways to minimize costs without impeding business growth or risk management. In addition, servicers are attempting to derive more income opportunities form their portfolios.

Servicing departments face a particular challenge when an order comes down the corporate pipeline demanding cost cutting from operational budgets.

The PwC executives advise servicers to avoid blanket cost cutting moves, measure costs accurately, understand what drives costs, and know when to outsource functions or turn to a subservicer. They are particularly concerned about blanket cost cutting.

"There is a balance between getting the right cost base and making sure you provide the right customer service," Mr. Davies said.

The consequences of blanket cost cutting can be severe, as several recent lawsuits and regulatory actions against servicers have demonstrated.

Cost cutting that harms customer service levels could result in additional costs in the form of tax penalties and loss of customer service or cross-sell potential, PwC advises.

Servicers need to identify fixed and variable costs so they are in a better position to target cost cutting initiatives, PwC says.

They also advise that "activity based" cost measures can help servicers determine where expenses can be shaved and where they cannot. This way they can target cuts at high-cost, low-value activities.

Mr. Touhey said that activity-based costing can help lenders identify what activities are actually driving cost issues.

"It introduces a greater level of detail as to how the money or resources are being consumed by activities," he said.

And in benchmarking costs, it is important to determine what is driving areas where a lender's costs may be higher than peers, they point out. For instance, high customer service costs may reflect problems in payment processing or the tax department that generate calls and complaints rather than an inefficient customer service department.

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