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Rising interest rates may cut banks mortgage future short

With the economy still clawing its way back to full recovery, bank earnings have become a bellwether for how well the markets are adjusting to the new norm.

Mega banks JPMorgan Chase and Wells Fargo posted impressive profits for the second quarter of 2013, recording earnings that were well above year ago levels.

Investors and borrowers kept a close eye on both of the banks mortgage originations results Friday.

JPMorgan (JPM) recorded $49 billion in originations, up 12% from a year earlier. Additionally, purchase originations alone grew to $17.4 billion, up 50% from the last year and 44% from the previous quarter. 

The largest mortgage lender in the U.S., Wells Fargo (WFC), reported its home lending originations amounted to $112 billion, up from $109 billion from the previous quarter. Additionally, applications climbed to $146 billion, also up from $140 billion in the prior quarter. 

However, a swift rise in interest rates, fueled by commentary from Federal Reserve Chairman Ben Bernanke has created obstacles for banking giants as they struggle with sluggish loan demand and looming regulations.

For instance, JPMorgan executives said on a conference call Friday that mortgage production may drop as much as 40% if rates stay at their current levels.

"We’re trying to make clear to you this would be a dramatic reduction in profits," said JPMorgan chairman and CEO Jamie Dimon. 

Higher interest rates could dampen the purchase-driven market and also dent future bank earnings with a strong presence in mortgage originations, according to Fitch Ratings.

For instance, the Mortgage Bankers Association latest interest rates on 30-year, fixed-rate mortgages rose to 4.68% on average, which is the ninth consecutive weekly rise and the highest rate in nearly two years. 

"We expect mortgage volumes will continue to fall, as many borrowers have already refinanced their homes or are still unable to refinance because of depressed housing values, though Fitch would note that this is partially offset by rising home prices," said directors for the credit ratings agency. 

They added, "Additionally, a shift in the mix of mortgage originations from refinancing toward new purchase loans could offset some volume pressure in coming quarters, especially if the housing market recovers at a somewhat faster pace."

For some banks, mortgage banking has accounted for as much as 20% of non-interest income and nearly 8% of net revenue.

The impact of rising interest rate could prove troublesome.

To put it into perspective, a mortgage banking decline of as much as 50% due to higher interest rates and refinancing burnout could represent a 4% revenue decline for regional banks, a significant drop that needs to be offset to keep revenue at least level, analysts claim.

"Bank earnings from large mortgage players such as JP Morgan Chase, Wells Fargo and U.S. Bancorp have been boosted over the last several quarters by strong mortgage banking income due largely to the high volume of refinancings amid generationally low mortgage rates," Fitch directors explained.

They added, "Fitch did not expect this level of mortgage banking to persist, and with refinancings dwindling and mortgage rates moving higher, Fitch believes bank earnings could be impacted over the next few quarters."

Overall, market experts are pleased that the mega banks continue to beat expectations with modest mortgage purchase volumes — which may continue with Treasury 10-year notes beginning to fall again.

Nonetheless, Anthony Sanders, a real estate/finance professor at George Mason University, believes the volume runs counter to the MBA purchase application index, which shows a decline.

"It appears that the big banks are growing in volume while mid – and small banks are… not," Sanders concluded. 

cmlynski@housingwire.com

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