Rising interest rates could be mortgage servicers' saving grace in 2016.
While servicers are still dealing with high levels of problem loans in their portfolios, they are hopeful that rising rates will slow the outflow of loans they lose when borrowers refinance. At the same time they are counting on loans they've lost to refis to be partially replaced by stickier purchases, balancing out their portfolios and bolstering their bottom lines.
"With mortgage rates potentially increasing in 2016, loan origination volume will play a large part in a successful outlook for mortgage servicers next year," said Robert Parker, the mortgage servicing manager at Trustmark Mortgage Services, a division of Trustmark National Bank.
That's the good news in the outlook for mortgage servicing in 2016. The bad news is that, even as delinquencies and foreclosures have declined over the last couple of years, servicers are still stuck with scores of problem loans that require constant – and costly – monitoring.
Servicers are also dealing with increased regulatory scrutiny and some are likely to be hit with more enforcement orders for past failures in helping distressed borrowers, experts say.
The increased scrutiny from regulators and cost of improving dealing with borrowers has caused servicing costs to skyrocket. The cost to service a performing loan jumped to $170 a loan per year in 2014, down from $205 in 2013 but far above the $59 in 2008. The cost of servicing a nonperforming loan is now more than $2,300, from $482 in 2008, according to the Mortgage Bankers Association.
"Mortgage servicing is so hard these days, even the current stuff, you just can't make money at it," said Andy Laing, the chief operating officer at Fay Servicing, a Chicago special servicer. "Costs have gone up across the board."
Servicers are putting policies in place to comply with the Consumer Financial Protection Bureau proposed changes to its January 2014 mortgage servicing rules. The additional measures seek to clarify loss mitigation requirements and rules governing borrowers in bankruptcy, and would provide some borrowers and their families with foreclosure protections more than once over the life of the loan.
Brock Vandervliet, an executive director and senior analyst at Nomura Securities, sees an upside from the more than $460 billion in nonperforming and so-called reperforming loans still left over from the crisis.
He estimates there is four years' worth of potential nonperforming loan volume that could be sold, and nearly six years of reperforming loans, so more mortgage servicing transfers are ahead. (The majority of the loans are being serviced for Fannie Mae, Freddie Mac and the Federal Housing Administration.)
"There's a lot of raw material for a servicers but they have to stay on top of those borrowers to make sure they continue to write checks," Vandervliet said. "It's not a one-time fix and they move on."
But Fay's Laing isn't so sure. He says smaller and regional servicers might not have the capacity to handle the volume of nonperforming and performing, but still risky, loans that larger servicers are looking to unload.
"The message for 2016 is there are still a lot of nonperforming loans out there," said Laing. "The No. 2 issue is who is going to be able to take on this volume?"
In the wake of the financial crisis, banks mishandled foreclosures on such a scale that regulators had to step in.
In June the Office of the Comptroller of the Currency found that six banks were still not in compliance with the 2011 consent orders and faced hefty penalties.
Wells Fargo, the largest mortgage lender and servicer, was prohibited from acquiring mortgage servicing rights, entering into new servicing contracts or offshoring servicing activity. JPMorgan in New York and U.S. Bancorp in Minneapolis, the two other big bank servicers, had to get approval from the OCC to acquire mortgage servicing rights and enter into new contracts.
Basel III capital requirements also have discouraged banks from holding mortgage servicing rights.
Meanwhile, nonbank servicers Ocwen Financial, Nationstar Mortgage and Walter Investments, which all grew dramatically after the crisis, have been grappling with regulatory and operational problems of their own. Ocwen has been prohibited for a year by the New York Department of Financial Services from acquiring additional servicing rights.
Commercial banks held $85 billion of nonperforming loans and $63 billion of so-called reperforming loans at the end of the third quarter, according to data from Nomura Securitized Products. Reperforming loans are loans that previously were delinquent for at least 90 days but have become currently, typically through a loan modification.
Fannie Mae and Freddie Mac held $75 billion of nonperforming loans and $226 billion of re-performing loans at the third quarter, Nomura found. The Department of Housing and Urban Development, which oversees the FHA, holds $15 billion in delinquent loans and $3.4 billion in foreclosed loans.
On top of those numbers, at the end of October there were 820,000 borrowers who were 90 or more days delinquent on their mortgage, and 721,000 homes in foreclosure, according to Black Knight Financial.
Many servicers cite the long judicial foreclosure process that can take up to three years in New York, New Jersey and Florida, for the pullback in loan originations.
"There's a reason why there are fewer delinquencies today because no one wants to service loans to low-income, low FICO-score borrowers," said Laing. "Nobody wants to bring that model back because it costs more."