Nontraditional mortgage lender builds out retail, aims at top 10 slot

After a niche market it did business in experienced secondary-market disruption last year, Sprout Mortgage — a wholesale funder and buyer of nontraditional loans — changed its tack, and it's now taking another step to that end.

The private company announced Tuesday it will be expanding its retail origination channel in line with its goal to become a top 10 player by maintaining the growth trajectory it’s established over the past four years. Former Wells Fargo Senior Vice President Michael Johnston will lead the buildout of the company’s retail network through direct-to-consumer operations, brick-and-mortar branches and joint ventures.

The move makes it easier for borrowers who don’t have standard W-2 incomes and those that do to get loans from the same outlets, and reflects broader trends.

“Coming out of the pandemic, we see a huge opportunity to expand quickly and grow bigger,” said Sprout Mortgage president Shea Pallante. “We’re a top non-QM lender and we’re looking to take the company to the next level. The retail strategy is going to help drive that.”

Non QM loans lie outside the evolving qualified-mortgage definition that serves as an indication of whether a loan satisfies the legal mandates of the Dodd-Frank Act’s ability-to-repay rule. It’s shorthand for loans that don’t fit the traditional underwriting box.

Because non QM loans don’t have the government backstops other mortgages do, they became scarce last year when the pandemic hit and investor demand for the loans dried up. As a result, borrowers temporarily had trouble getting these mortgages altogether. Nonbank specialists like Sprout diversified and later brought non QM loans back tentatively and primarily through third-party channels as government rescue funds helped stabilize the economy.

At the same time, the mortgage business boomed in 2020 amid record-low rates put in place by monetary policy officials as stimulus and several nonbanks’ initial public offerings created an additional impetus for industry competition. This year, with the economy opening up and rate-stimulus dwindling, competition for loans is expected to heat up further putting downward pressure on margins. At Sprout, there’s a little pressure on margins in correspondent, but they’re still relatively healthy for the wholesale division, Pallante said.

All of which explains why Sprout no longer relies exclusively on its less rate-sensitive specialty products but plans to leverage them for growth this year, within reason. In doing this, Sprout plans to expand prudently within the bounds of the ability-to-repay rule, and use best-available, scalable automation such as artificial intelligence-driven workflow tools to manage capacity as it does, Pallante said.

“There’s been a drop in refinance applications, so with that happening, non QM tends to pick up. Non QM is the main part of our business and we expect that to continue as most segments of our products grow,” he said. “That’s how we can distinguish ourselves in distributed retail.”

All that, in combination with the company’s goal to become a top 10 lender, raises the question of how it plans to fuel its growth. Whether it could potentially join other large nonbank mortgage lenders like Finance of America, Rocket or United Wholesale in staging an initial public offering remains to be seen.

An IPO is possible, but likely not until further down the road, if at all, Pallante said.