Early in his career, Mike Heid worked for a small mortgage lender that at one point had to sell its furniture to make payroll. “In my office now, there still isn’t much furniture,” he laughs.

The bank survived, and Heid learned a few things from the panic. In 1988, the Wisconsin native joined Wells Fargo. Today, his team manages the largest mortgage business in the U.S., originating one of every four mortgage loans in the country. In the third quarter of 2011, alone, the bank originated $89 billion in home loans during the third quarter. That was more than JPMorgan Chase, Bank of America and Citigroup — combined.

When we sat down in a nondescript conference room above the Mortgage Bankers Association conference in Chicago, the first things Heid talked about was his respect for his team and the rest of the team at Wells.

The bank operates like a collection of parts specifically fitted to work with one another, and Heid points out that this sort of mindset — putting the reputation of the bank before personal accomplishment — has helped Wells avoid the brunt of crises created via pay-option adjustable-rate mortgages and robo-signing.

That’s not to say the firm hasn’t had some of the same difficulties other lenders have had, such as an overloaded servicing department. But with a housing industry that can’t seem to find a solution for its problems, HousingWire couldn’t think of anyone better to talk to than Heid.

HousingWire: Was there ever a moment when you realized how bad things were going to be?

Mike Heid: No, no there was never just one moment. In the beginning of 2007, I remember a summit FDIC Chairman Sheila Bair called … an industry gathering to share ideas … it was at the FDIC, an entire group of regulators, every regulator was there. They had 50 people there. The subprime problems were just beginning to raise their head, and this was supposed to be a brainstorm for the future structure of the market.

At the time, everybody seemed to think that it was a subprime market problem, which was 10% to 15% of the market. From there we started to run into some of the problems at the large Wall Street firms, which really started to speed up the issues.

HW: Wells Fargo managed to navigate through it all. Some would say better than just about anyone else.

MH: We take a longer-term view. Part of the reason we didn’t originate option ARMs was because we were taking a longer-term view, and we didn’t see how that product would be a fit for doing business.

The MBA, as a collective whole, needs to embrace change, something like servicing standards. I think at times in the past, individual companies were choosing to take very short-term profit. Countrywide is good example. That’s just not where this industry can go.

It was just a terrible business model, terrible business practices. Yeah, they were making money and there were plenty of stock analysts asking us why we were so slow. Why we didn’t get it. They would say, ‘They’re making all this money, and you’re not. What’s wrong with you?’ But the product, the activity, the way in which they chose to go about their business just didn’t fit. We had a belief that eventually those kind of practices tend to catch up with you somewhere along the way.

It wasn’t easy. You never want to give up market share. The option ARM for example, the product started out as a niche. And if it had stayed a niche, it had a purpose. A classic example was the car salesman who had wide swings in monthly income to pick and choose what he paid every month, but that’s a niche need. It was never meant for 15% to 20% of the market, which is what this product turned into.

HW: How much of that problem have you gone through?

MH: A lot of it. We didn’t originate option ARMs ever, and then the deal with Wachovia closed in 2008. One of the great ironies is that now we have one of the largest servicing portfolios of option ARMs. We put our team to it. The Wachovia team that came over went to work on it. They were a great team. They just needed a leadership change. And that team rallied. We started aggressively using principal forgiveness. It was a little bit ahead of its time in terms of magnitude with which we did that because the team really understood it needed to be done differently. We used principal forgiveness to get customers to want to engage.

HW: BofA inherited Countrywide around the same time, but their problems just don’t seem to end. Were your strategies really that different?

MH: I don’t know what they did or didn’t do. I can’t speculate. The practices that Countrywide followed really caught up with them. Their problem is repurchases. In terms of pick-a-pay, which is what Wachovia had, it was all on their balance sheet. So if all you had were option ARMs, doing it the way Wachovia did was actually smart. I mean, it made bad investment decisions, but Wachovia made those loans with an eye of putting them on its balance sheet. There’s some stark differences between what Wachovia did in their pick-a-pay space and what Countrywide did in the secondary market. It’s almost apples and oranges.

HW: How far are we until housing recovers and begins to grow?

MH: I’m not going to give a time horizon. The way I think of it, a recovery in housing is driven by a recovery in the economy itself. Without substantial improvement in the job situation across the country, I think it is going to be very difficult getting the purchase market going again. The real question is the future view of the economy and there’s a lot of opinions on that. With interest rates being as low as they are right now and the announcements of the changes in the Home Affordable Refinance Program, we’re very active in refinancing to help customers take full advantage of the current low-rate environment. We’re adding team members to make sure we can keep pace with the level of customer interest. We’ve seen an increase in application activity in the third-quarter numbers.

HW: But there are a lot of new regulations coming down on mortgage originators. Risk retention and specifically QRM are the attention grabbers. What effect would a 20% down payment have?

MH: I think the qualified mortgage definition is the more substantial of the two. In my opinion, the qualified mortgage definition has a greater overall bearing on the market itself than the QRM. Think about it in layperson’s terms. The definition of qualified mortgage really is the ability to repay, and that sets the standard for the broader market. A non-QM means there is some question about a person’s ability to repay. I think the way the market will unfold is that the non-QM market will be a very small, very niche-driven, maybe a high-net-worth customer. Having the QM definition crystal clear and every lender knowing what to do is important and that’s on the horizon for the Consumer Financial Protection Bureau sometime in the first quarter.

HW: Next on the progression would then be QRM. If QM is going to be the playing field, where does QRM fit on that field?

MH: In QRM, I think the 20% down payment has been really mischaracterized. If you think QM is the market loosely defined, then our stance on QRM is that there is really is a policy choice to be made. If policymakers are comfortable enough that QM conditions are enough of a statement around quality underwriting, then QM could be enough and then you wouldn’t need QRM. It could be an either or. We’re not advocating either way, but it’s an option.

If that’s not the way you want to go, then what we think in terms of what QRM should become is a measure that would effectively split the market in half. So you’ve got half the market QRM and half the market non-QRM. If you have equal proportions between QRM and non-QRM, you’ll mostly have the broadest liquidity and therefore the lowest possible rate for consumers by having a big enough market in both spaces.

HW: Which side would the largest lenders fall?

MH: QRM and non-QRM should really be viewed from a consumer’s perspective. The risk retention is needed by whomever securitizes it. So you have the Federal Housing Administration, which is exempt. A question mark is how the government-sponsored enterprises will fit in. There is a fairly broad section of the market that’s not impacted by QRM — at least in the early days. We’ll see what happens with the GSEs down the line. It’s not a big lender, small lender thing. The attempt of QRM was to generate quality loans, which we’re very much in favor of and support. I want to point out that in the regulation that came out with QRM, the policymakers give an alternative that had a 90% LTV.

If you want to go with this notion of making sure you have roughly a split in QRM and non-QRM markets, the alternative structure was pretty close to achieving that 50-50 split in the marketplace. That’s how we see QRM. I think this big lender, small lender is just a mischaracterization of what’s going on. Some of the talk about customers having to have a 20% down payment in order to get a loan, that’s just not true. A 20% down payment is one way, one definition of what would be QRM, but loans will be still be made in the non-QRM space. That’s not true in the non-QM space.

HW: So the non-QRM space would be much larger than the non-QM space.

MH: It would be much, much more difficult to write a non-QM loan.

HW: Let’s talk about the government’s future role in the mortgage market. Does the industry and the consumer need a government guarantee?

MH: If you think about the white paper, our view remains that the third option (hybrid model) is closest to the best all-in answer here. We still think that broad securitization for a good majority of the marketplace is still the best way to achieve the best and lowest interest rates for consumers.

The way to achieve this is with an explicit guarantee on the security itself, not the future GSE, not the company, but an explicit guarantee on just the security and the security performance. If you’re going to have an explicit guarantee of the security performance, then the obvious question is how are you going to protect the taxpayer from ever having to put that explicit guarantee to use? That’s where we believe private-sector capital should come in front of it — private capital that takes the loss of credit and steps into that first-loss position.

HW: Kind of like the FDIC fund, more or less.

MH: There are parallels. The explicit guarantee, you pay for it, just like FDIC insurance. You’d have multiple layers of private-sector capital including the down payment and a credit enhancement, because now you now have a QM and QRM concept. You’d have reason to believe the lending world is going to have better quality origination practices in the future. By having a structure that puts private capital in the first position to take credit loss insulates the taxpayer from this explicit guarantee. If properly structured, we see this as a way to ensure there’s competition and distribution of product so homeowners benefit.

HW: If we get all these rules in place, when will we see that 95% government market share decline?

MH: A lack of clarity and uncertainty creates concerns. Once the landscape becomes clear, we believe there is a place for private capital. The Treasury said in the white paper that private capital should be the way forward for housing finance in America. It will take a period of time to transition to some future structure, but if there is a clear road map to where you want to go, I would imagine the conditions being ripe for private capital to step in.

There is an offshoot that needs to be brought in here.

The role of the FHA program needs to be a piece of that. Secretary Donovan has said before the current market share at the FHA is not sustainable. There is a 30%-plus market share for its purchase business alone. Secretary Donovan has talked about a 10% to 15% market share for the future. The FHA can’t be forgotten relative to how all this needs to be modified. The FHA program didn’t change. The FHA program today is the highest LTV. It’s really the program arm for housing policy. Today it’s a 97% to 98% LTV kind of program. If you think about the non-FHA market having quality conditions, LTV conditions, QM, non-QM, everything else we’ve talked about, then, if the FHA doesn’t have any of those things, customers will just naturally select into the highest LTV program. If you’re going to change the GSE part of the marketplace, you can’t do that in a silo. You have to make changes to the FHA side, as well.

HW: So if these new rules are implemented and the GSEs are rewound without changes to the FHA, then the government’s market share will just keep growing.

MH: Which is why FHA market share has gone from a few percentage points to 30% to 35% in a very short period. Having a more holistic view on it is what will be required.

HW: One of the first steps to reduce that market share was the conforming loan limit drop. Do you see that having a big affect on shutting out some homeowners?

MH: I don’t expect a big impact from that because that slice of the market wasn’t very big to begin with. We’re talking a few percentage points. There’s plenty of balance sheet, too, to handle that type of loan. What you’ll find is that with FHA where you used to be able to get a 97.5% LTV loan, with the size dropping, you’ll see a bigger down payment requirement, but I’m not so sure that’s a bad idea.

HW: Let’s shift from the mountain of new rules on the origination side to the mountain of new rules in servicing. How far along is Wells with all of the consent order requirements?

MH: Well, I can’t give a lot of specifics. What I can tell you is single point of contact is in place. We had a version in place by our own choosing, long before the consent order. The internal team has done a fabulous job in implementing the various requirements under the consent order.

HW: Will we see such robust staffs for things like single point of contact to help avoid the lost paperwork problems and robo-signing problems, or will we see some sort of sharper divide between servicing current loans and delinquent ones?

MH: I think national servicing standards will be healthy for the servicing market. It could arise through the AG process. It could also arise through the CFPB. Making sure those standards apply to everyone that services mortgages in America would be a healthy development. When you have very clear expectations of what it takes to become a servicer, investors will know what they should expect from their servicer. And consumers should also know what to expect. That clarity would be a very healthy thing for the market.

HW: Do you see your servicing shop growing and maintaining a certain staff or a certain cost in the future?

MH: Due to the economy, I think there will need to be a focus on helping those customers sustain homeownership for years to come. I think the delinquency levels we see in the future will be tied to the economy as time goes on.

HW: Once we get all of this sorted and if some of the things you talked about here are put in place, do you feel confident that we will never see another crisis similar to what happened?

MH: I think homeownership is still very important for consumers. Our customer research shows even millennials want to become homeowners in the future. It’s encouraging. Despite all you read about some of the struggles some are experiencing, it’s encouraging to see that what we do here still matters to people because it’s more than just where you live. It’s goes to family, the community, the neighbors, everything. So, as long as homeownership continues to be important for consumers, I think then there is a need for good quality organizations to step in and serve those customers needs both in making loans and sustaining homeownership over the long haul, and I think that’s where we at Wells Fargo intend to be.