Ally Financial revealed during an earnings call last month that it was trimming its correspondent lending unit while laying off an untold number of workers to manage mortgage risk that has damaged its financials.
An Ally spokeswoman told ON that ResCap is still committed to buying closed loans, but will better manage that risk by reducing the number of mortgage bankers it buys from. The company will remain in retail and wholesale channels.
Ally, as a whole, lost $210 million in the third quarter because of a large writedown on its mortgage servicing rights.
MSRs have become “too large for the company's balance sheet and the resulting earnings volatility is more than we believe is prudent,” said Jeff Brown, senior executive vice president of finance and corporate planning.
Ally's residential division (ResCap/GMAC) lost $422 million in the third quarter compared to a $127 million loss in the second quarter. In 3Q 2010, mortgage banking earned a profit of $154 million.
In addition to giving notice about its plans to scale back its correspondent business, the company also made it clear during its earnings call that there are limits to its patience when it comes to its mortgage unit in general.
“While Ally has and continues to be supportive of ResCap that should not be interpreted to mean there is a blank check from the parent,” said Ally CEO Michael Carpenter during a conference call with analysts. “It's a top priority of ours to aggressively manage our risks related to the mortgage business.”
Ally owns 100% of ResCap and the U.S. Treasury in turn is a majority owner of the bank holding company.
In contrast to the mortgage unit, Ally's global automotive services unit had a relatively strong quarter.
By comparison, the firm's North American auto finance business posted profits of $550 million or better the past two quarters.
This was “unfortunately overshadowed by underperformance in the MSR asset, net of hedge, which had a negative pretax impact of $471 million,” said Brown. “Specifically, we did not have enough call protection on and would have needed more long-dated swaptions to hedge the severe decline in interest rates and curve flattening during the quarter. Despite some good core trends our results...are not acceptable and we are taking action to better position the company.”
The company felt reducing its “least profitable originations” was “the way to go,” Brown said, discussing the cutback in correspondent.
Brown said, “There are a number of factors leading to this decision and obviously we've had several other market participants reach similar conclusions given changes in the mortgage lending industry and environment today.”
The outlook for mortgage profitability is “very different from a year ago” due in part to regulatory requirements and Basel III, which most banks are implementing ahead of schedule, he said. (Basel III caps how much MSRs can count toward core capital.)
While there is “a possibility for changes in the servicing model migration to fee-for-service business in the future, which we think makes a lot of sense, we cannot be confident that change will come quickly,” Brown said.
He said the company would be “focused on maintaining correspondent relationships with clients that produce the highest quality collateral that use our full-service capabilities and that produce the most attractive prepayment and credit characteristics.”
During the call, CFO Jim Mackey noted that the market is expecting prepayments to increase significantly due to a new White House-backed refinancing plan for GSE borrowers. “If this occurs we are well-positioned to benefit from larger origination volumes in our retail channel, and while we can't predict the future, we can also benefit if higher levels of prepayments don't materialize as we'll get some of that back through the market on the MSR asset.” When asked when or whether it might revive now-shuttered plans for an initial public offering, executives said they would need among other things for the market to treat financial stocks more kindly.
Paul Muolo contributed to this story
