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   ARTICLE   |   From Scotsman Guide Residential Edition   |   December 2009

How to Persevere After the Party

As independent brokers wane, others will find ways to stay afloat

With legislation and lending guide- lines showing an increasing bias against the wholesale channel, it has become more important for mortgage brokers to develop nimble, smart and efficient business practices. From 2002 to 2006, brokers grew to claim about 70 percent of the mortgage-origination market. Today, that number likely stands closer to 20 percent. r_12009-12_Olson_spot

In many ways, the party is over for brokers.

There also has been a marked decline in warehouse lending and a shift toward government-loan programs. Brokers have accepted the brunt of criticism for the recent market fallout despite playing a crucial role during past periods of high demand and easy access to capital. In these times, many brokers specialized in refinances and niche markets. They also provided cheaper loans than retail outlets and offered faster and highly personalized service.

The exodus of a huge percentage of brokers means that many consumers likely will be forced to pay more in origination fees while also receiving service of diminished quality. Many of the brokers still in business will find themselves scratching for survival through affiliations with local banks that provide vital access to compliance support and capital. Others options include:

  • Becoming a loss-mitigation expert;
  • Focusing on marketing loan products but delivering applications to lenders for processing;
  • Brokering personal loans; and
  • Entering another business, such as insurance sales.

Brokers who do remain in the wholesale channel must concentrate on cost reductions and provide even higher-quality service than they have in the past. This likely will remain the trend until government regulations quit targeting brokers and home prices renew annual and sustainable appreciation levels. Here's why.

Developing trends

Government regulation already has resulted in the takeover of Fannie Mae and Freddie Mac and bailouts. Soon, there will be even tighter control of mortgage brokers via reforms of the Real Estate Settlement Procedures Act as well as industry changes stemming from the Secure and Fair Enforcement for Mortgage Licensing Act, the Home Valuation Code of Conduct, and the Federal Reserve Board's modifications to the Truth in Lending Act. All of these changes impact brokers' income negatively and diminish their ability to compete with banks.

Meanwhile, delinquency and foreclosure rates continue to increase in the residential and commercial markets, a trend expected to continue until at least the middle of 2010. These economic developments and others -- including increased consumer savings and deleveraging -- likely will prolong slow economic growth. In addition, increasing inflation and interest rates, higher taxes, and more government regulations are likely.

As of mid-October, the average 30-year fixed-rate mortgage, as measured by Freddie Mac's weekly Primary Mortgage Market Survey, carried a 4.92-percent interest rate, and the 10-year Treasury yield curve stood at 3.35 percent. Expect both rates to increase by 100 basis points by the end of 2010. 

If these increases do occur, we can attribute them to the stopping or slowing of purchases of mortgage-backed securities by the Federal Reserve at the end of this year. This will further reduce mortgage refinances and more than offset increases in purchase mortgages. Thus, we estimate total origination volume in 2010 to be $1.1 trillion to $1.3 trillion.

That estimate includes Federal Housing Administration (FHA) loans, which have increased from about 2 percent of the overall market to about 25 percent in the past year or so. FHA loans, in effect, have replaced subprime (aka, nonprime) mortgages. More than 14 percent of FHA loans were delinquent as of this past June 30, according to the Mortgage Bankers Association, and almost 3 percent were in foreclosure. 

The reserves in FHA's single-family fund could fall below the 2-percent cushion above projected losses required by Congress, FHA Commissioner David H. Stevens acknowledged this past September. FHA defaults are projected to continue increasing in the next six months. This suggests more losses and tighter regulation by the U.S. Department of Housing and Urban Development.

The economic downturn also has led to a diminished fund balance at the Federal Deposit Insurance Corp. (FDIC) -- down to $10.4 billion this past June from $45.2 billion a year prior. Banks, which already are paying more to the FDIC to stem this trend, likely will have to pay even more in the future.

Long-term survival

The mortgage market is characterized by high volatility. Mortgage-origination volume increased from $1 trillion in 2000 to $3.9 trillion in 2003 before falling back to $1.7 trillion in 2009. In large part, brokers have taken up the slack when needed, and there is no reason to believe that will change in the future. 

For the time being, however, many brokers who remain in business will need to affiliate with banks to survive. The compliance support and capital available through these affiliations will prove critical to many brokers in this trying period.

Brokers who manage to maintain their independence must lower costs and provide even greater-quality customer service than they have in the past. We predict it will take at least 10 years for brokers to recover their prior position, but the vital role brokers have played in past mortgage markets seems to ensure their future revival. Their ability to adjust quickly and smartly to market challenges also will allow them to survive this time of increased regulation and restricted capital.

Although their numbers will be drastically reduced for some time to come, brokers can look to certain trends that already seem to signal an upturn in the market. For example, the move to sustainable home prices may already have begun. As measured by the S&P/Case-Shiller Home Price Index, the national average rate of decline in home prices has slowed since early this year, as of press time. National price trends have yet to return to appreciation, but the reduction in the rate of decline appears to be a positive indicator.

Although the recession may be ending, the recovery is expected to be flat and may include another downturn. As mortgage brokers work to persevere, the best and brightest will find ways to remain independent even as their peers affiliate with banks or search for other professional avenues.


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