The cyclical nature of the mortgage industry

Here’s what 2020 taught us


The ability to look past the now and develop strategies that poise an organization for future success is key to any leadership position in almost any business. It’s true for the mortgage industry and especially the long-term strategies we’ve developed to react to the current low-rate environment brought on by a global pandemic.

One of the most fascinating factors that drove rates lower was the decoupling of duration and swap spreads for mortgage- backed securities, which, ironically, analysts expected to be short-lived in 2020. This rally caused rates to drop which lured millions of homeowners to refinance their current home loans throughout 2020, leading to unprecedented loan volume for the entire mortgage industry.

While much of the mortgage industry fixated on low mortgage rates the past year, it’s important to understand the anatomy of what drives rates. In the U.S., the federal funds rate refers to the rate that banks can charge other banks for lending excess cash from their reserve balances on an overnight basis. This rate can influence short-term rates on mortgages and credit cards in addition to impacting the stock market. This rate is also set by the Federal Open Market Committee.

While they can’t mandate a particular rate across the board, the Federal Reserve can adjust the money supply so that interest rates will move toward the target rate — when they increase the amount of money in the system, rates fall, when they decrease the amount of money, rates rise. This rate is set eight times a year based on economic conditions.

Over the last year, Fed Chair Jerome Powell consistently pledged that the Fed would continue to buy mortgage-backed securities to stabilize the American economy, which increased the amount of money in the Federal Reserve System and drove rates lower.

Now in 2021, rates are still hovering around 3% and the Fed is holding steady on keeping rates relatively low until 2022. So, what did we learn and what will happen to wholesale rates, refinances and overall growth in the mortgage industry?

The market was primed for a refinance frenzy

Over the past five years, the average mortgage rate in the U.S. hovered around 4% to 4.5% with rates as high as 5.34% and as low as 3.41%, which set the stage for a high-demand, high-growth market for lenders who were poised to respond to a sudden low-rate environment. We also learned that speed was going to be more important than ever as borrowers were eager to lock in a lower rate and start saving money immediately, as the economic outlook for the finances of millions of Americans became shaky at best.

It’s not over

Despite record mortgage production volume in 2020, we aren’t close to exhausting the opportunity for refinance business. The average mortgage rate is in the low 3s. Our data shows that over 70% of the mortgage debt outstanding in the U.S. is locked at a higher rate, meaning these consumers are still eligible for a refinance loan. While rates ticking up may cause some uneasiness with those in the industry, our projections show we actually have at least another four years to refinance all eligible mortgages in this population, which will continue to drive high production volumes for lenders around the country.

Wholesale is consistently competitive

While we’ve been dealing with a significantly volatile market, one thing has remained clear; the wholesale channel is strong. We know that all lenders generally do well in a low interest rate environment, but the wholesale channel and independent mortgage brokers thrive in a rising rate environment. This is because brokers are in their local communities and work closely with local real estate professionals.

Mortgage servicing rights will be hot when rates rise

With more access to capital, many companies who went public now have the ability to hold onto their mortgage servicing rights. As rates rise, MSR books become more valuable, which ultimately generates more cash. This can further help grow and protect business throughout the mortgage industry.

The road ahead

Rates will eventually go up and come back down again, that’s the nature of this cyclical business. When rates do go up next, it’s going to become a purchase-heavy market. A lot of times when we discuss capital markets as an industry, things tend to get overly complicated. But a big thing to keep in mind is that the Fed’s actions throughout 2020 were powerful enough to bring us stability so far in 2021, meaning we’ll likely continue to do well as an industry for the next year or so.

While we can use data to develop predictions, the past year taught us that things can change dramatically in the blink of an eye. It’s important to remember and learn from the times where we’ve been able to thrive among so many uncertainties.

This article was pulled from the HousingWire Magazine May issue. To read the the rest of the issue, go here.

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