When the Music Stops, Who Loses a Seat?

Let's face it, folks: the good times won't last forever in mortgages and housing. Right? Of course, predicting an end to the current housing and mortgage boom is like predicting sea currents - which means just when you think you understand everything you realize you don't.

New research from Friedman Billings Ramsey & Co. tells us that 42 U.S. cities (a k a urban areas or UAs) are facing a housing bubble, up from 27 the last time FBR sharpened its pencil.

Why do these cities (nine of the top 10 bubbles are in California) look like bubbles? Because incomes are way too low when you look at the crazy prices being paid for housing there. So, how then are consumers affording these sky-high-priced homes? Answer: interest-only ARMs and payment-option ARMs.

This column isn't about beating up on IOs and PO ARMs. My feeling is this: if a lender wants to fund the loan and the consumer qualifies, then so be it. The general media have lost their minds if they think these loans are the "Great Satan" of housing finance.

But let's get back to our first question, which has to do with the long-running party that's been going on in housing and mortgages. Yes, things are great. Loan production hit a record $3.9 trillion in 2003 and last year was darn good at $2.9 trillion with another $2.9 trillion expected this year.

Yes, overall industry volumes are down but profit margins have been healthy. Then again, profit margins in the nonconforming niche have been slipping the past six months and some folks are getting squeezed which leads us to ask who in the industry is going to jump ship first.

Usually, the big boys (the top 20 funders) manage through the morass and experienced loan brokers (not the "newbies") always seem to find new ways to make money. That means the midsized firms will get squeezed and head for the exits.

But let's back up. Maybe some of the big boys might head for the exits this time around. Let's take a look at the top 10. Countrywide, Wells, Washington Mutual aren't going anywhere. They'll be in mortgages until the cows come home and then some. Bank of America almost got out of mortgages a few years back but it seems somewhat committed to the business.

GMAC is a fine company with a crazy parent and the folks in Horsham, Pa., are doing their best to distance themselves from those gas-guzzling SUV makers. National City? They run a tight shop and seem to manage their nonconforming business well. CitiMortgage, like many of the top 10, understand that the residential loan is the key to the consumers. Citi's not going anywhere either.

That leaves Chase Home Finance and the Lehman Brothers-owned Aurora Loan Services of Colorado. (In case you're counting, GMAC/RFC is the nation's 10th largest lender.) Will Chase head for the exits? Will Lehman?

It's hard to say. Lehman has an interesting take on the business. It plays in the nonconforming niche, trying its best to stay under the radar screen when it comes to publicity, which is why there's no such lender called Lehman Mortgage Corp. Lehman also owns subprime lenders Finance America and BNC Mortgage. It's had some operational troubles with FA - which it won't talk about much - and recently canning top management there.

If Lehman ever needs the cash (and I'm not saying that it does), it could always sell Aurora, BNC and FA but a more likely strategy might be an initial public offering, that is, once the mortgage market corrects and revives.

As for Chase Home Finance, the company is a bit of an enigma. It has lost a ton of experienced managers the past year and rumors are rampant that in the wake of the JPM-Bank One deal that some of the new folks running the company aren't too thrilled with residential finance. We've been assured by some folks at JPM and Chase that it loves mortgages. If that's the case then Chase might want to try a little harder to keep some of its best executives before they depart for greener pastures.

(c) 2005 Mortgage Servicing News and SourceMedia, Inc. All Rights Reserved. http://www.mortgageservicingnews.com http://www.sourcemedia.com