The world of mortgage servicing rights is about to get a whole lot more interesting—and not just because the Basel III accord caps MSRs at 10% of Tier I capital. No, that’s the just the beginning.
Over the past few weeks tongues have been wagging in certain mortgage circles (and at the MBA convention in Atlanta, too) about the future of mortgage servicing contracts, especially in regard to Fannie Mae and Freddie Mac.
One thing the industry is carefully watching is a government-penned “transition document” which address several issues tied to an eventual wind down of the GSEs. This document, sources told me, is still in its infancy and addresses several GSE-related topics including the status of MBS guarantees.
Keep in mind that two months ago, the Mortgage Bankers Association sent a letter to Federal Housing Finance Agency director Alfred Pollard, regarding a number of issues tied to a potential Fannie/Freddie receivership (should it come to that).
On MBA’s checklist was a big fat paragraph concerning servicing contracts, including this sentence: “Generally speaking, the servicing on the mortgages is owned by Fannie Mae and Freddie Mac, and mortgage servicers own the rights to service the loans. Although the servicing can be seized by Fannie Mae or Freddie Mac at any time, the servicer must be remunerated in some instances where the servicing contract was terminated without cause.”
Over the past two years the GSEs have yanked away servicing contracts from dozens of firms, leaving them in the breach.
And in case you haven’t noticed, residential servicers have been writing down the value of their MSRs like crazy lately. Last week, for instance, PHH Mortgage of Mount Laurel, N.J., wrote down the value of its MSRs by $191 million, wiping out a nice little operating profit in its production division.
And it’s no secret that all of the nation’s megaservicers are now valuing their MSRs at 85 basis points or less (as an asset), taking into account delinquencies, prepayment speeds and (to some degree) the multiyear phase in of Basel III.
In short, it looks like the MSR asset is on someone’s hit list, which has mortgage bankers wondering whether they should bother being in the business of servicing of home mortgages. And according to consultants and vendors, even some of the industry’s big boys are asking themselves whether big really is better.
Citigroup supposedly underwent a strategic review of it mortgage business recently, asking itself whether it should be in the space at all. One advisor familiar with Citi said the bank decided to stay in the business but for one simple reason: “There’s no one to take them out.”
In other words, the future of the mortgage business is so precarious right now that megalender/servicers like Wells Fargo & Co., Bank of America, JPMorgan Chase and Citigroup couldn’t sell their mortgage operations if they wanted to, the chief reason being this: there are no buyers willing to pay a decent price for the MSR asset.
And yet, as every mortgage banker knows, MSRs do have a value—it’s just a matter of determining what that value is.
Because the future of Fannie and Freddie is undecided (and probably will be for another two years), the industry hopes to find a new way to value the “act” (so to speak) of servicing mortgages. It might be argued that subservicers are in an enviable position because, as contractors, they get paid no matter what. But the owner of the servicing strip has it tougher because delinquencies, and prepayments determine what value those contracts hold.
“What the industry is looking for is a new servicing contract,” said one MBA member, requesting anonymity. “The future of this part of the industry wants to find a way to recognize that servicing value in a way that washes through to the balance sheet.”
George Christo, executive vice president of The Prestwick Mortgage Group in Virginia, continues to believe that thanks to Basel III, huge chunks of the servicing business could be up for grabs with new entrants such as hedge funds and REITs gaining ground along with several midsized banks. (Nonbanks and REITs don’t have to worry about Basel III as long as their owners are not insured depositories.)
As for how, exactly, this brave new world of mortgage banking will play out, Christo is uncertain—along with the rest of us.
