Lenders Ready to Crank But Will Rest of Market Cooperate?

Expect mortgage lenders to finally conquer their fear of repurchases in 2016 and ease their standards, but whether those changes will be enough to spur major growth in volume is the big question.

The sources of that doubt are several likely drags on the market: higher rates, higher costs and mixed conditions in the secondary market.

On the plus side, lenders seem increasingly comfortable with Fannie Mae and Freddie Mac's demands.

"We fully understand when we might be buying back a mortgage if we underwrite to their [expanded] guidelines," said Scott Haymore, TD Bank's head of pricing and secondary markets. "I think they've made it very clear."

Both the government-sponsored enterprises, and the Federal Housing Administration that insures loans sold by into Ginnie Mae securitizations, have been encouraging broader lender underwriting and plan to continue to do so next year.

The GSEs have limited lenders' liabilities on loans over time. A representation-and-warranty framework that became effective in 2013, for example, lets lenders off the hook for repurchases three years after loans are acquired, provided the loans are current at that time, do not have more than two 30-day delinquencies and were never 60 days or more delinquent.

There has been some skepticism that such actions have led to any easing in underwriting of loans sold to the GSEs and the FHA, but it still could happen.

"So far we haven't seen the results of these actions," said Laurie Goodman, director of the Urban Institute's Housing Finance Policy Center. However, she expects "to see signs of this in the coming year."

Lenders have been forced to buy back relatively few recent-vintage originations of the 30-year amortizing products that dominate the market, Urban Institute statistics show. This might help persuade lenders to cut back on underwriting overlays designed to reduce repurchase risk -- such as imposing tougher credit-score requirements than Fannie or Freddie's mandates.

Lender concern about liability for FHA loans persists to a greater extent than for GSE loans, but there is still hope that the government insurer could make more progress in getting lenders to offer more affordable products in 2016, Goodman said.

While government lending allows less flexibility than it did, it is still "the closest thing to common-sense underwriting" today - or would be if lenders could get comfortable enough to lend to the FHA's minimum standards without overlays, said Steve Calk, chairman and CEO of The Federal Savings Bank in Chicago.

Naturally, any well-intended loosening of underwriting raises questions about whether the trend could go too far as it did in the precrisis years.

Secondary Market Pluses, Minuses

Looking ahead to the secondary market, lenders next year will have more options because the GSEs are becoming more competitive for first-time homebuyer loans, said Terry LeBlanc, national sales manager at Baton Rouge, La.-based lender Assurance Financial. He cited the recent introduction of Fannie Mae's HomeReady program as an example.

"HomeReady allows for renovations, unlike My Community Mortgage [which it replaces], and it’s much like the FHA 203k, but without the up-front premium," he said. "Both offer properties which may be one- to four-family dwellings, although the HomeReady product will allow for rental income to be used in qualifying. Any of these products, which promote homeownership in low- to moderate-income areas, are good for the community, the lenders and the borrowers."

There also continue to be some efforts to expand the secondary market outside of government and agency programs and competition from bank portfolios in the jumbo sector. TD Bank also offers a portfolio affordability product. But by most accounts nonagency programs continue to grow at a relatively slow pace, and still represent a fairly small portion of the overall single-family, owner-occupied home loan market.

The GSEs are not set up to dominate the market forever. Fannie and Freddie are on track to continue reducing portfolio holdings and doing more risk sharing with the private sector at the direction of their regulator, but the two agencies seem bound to be significant buyers in the market throughout the coming year.

The government and GSE markets for loans on a net basis will have expanded criteria in 2016, but there is a smaller number of new restrictions on certain types of underwriting as well. A recent FHA change, for example, makes it more difficult for some borrowers with frequent job changes to get loans, LeBlanc said.

In addition, the market broadly expects moderately higher rates, fewer refinances and more purchase volume next year. Purchase loans, while typically less rate-sensitive, cost more to produce. Higher rates might increase the yield on lenders' typical investments, but they also make mortgages less affordable for consumers.

Consolidation Pressures

Forecasters expect the net effect of all these secondary market developments will mean that there will be a moderate amount of continuing downward pressure on seller-servicer profits in 2016. This could lead to more consolidation.

"Many of the smaller servicing shops, especially those with less than $50 billion in assets serviced, they just don’t have the scale, capacity or the resources to compete, especially given the compliance environment today," said Kevin Brungardt, chairman and CEO at RoundPoint Financial Group.