Servicing earnings prop up Mr. Cooper’s Q3 performance

Operating earnings increased despite severe headwinds on origination demand

Nonbank mortgage lender and servicer Mr. Cooper Group reported a net income of $113 million in the third quarter thanks to servicing earnings shining through in a high-interest rate environment. Its profit, however, dropped 25%, offset by lower originations income from the second quarter.

Mr. Cooper had a $56 million pretax operating income in the third quarter of 2022, rising from $17 million in the previous quarter, according to quarterly earnings released Wednesday. The company also posted a $122 million gain, with mark-to-market mortgage servicing rights propelled by rising interest rates and a drop in loan-prepayment speed, which in turn amplified the value of MSRs because they pay out over a more extended period. 

“The highlight of the quarter was the strong ramp in servicing earnings, which reflects not only the benefit of higher interest rates, but our industry-leading technology, scale, and process discipline,” said Chris Marshall, vice chairman and president of Mr. Cooper.  

In its servicing portfolio, pretax operating income in the third quarter more than doubled to $81 million from the previous quarter’s $30 million due to “higher rates on amortization loan and interest income,” Jay Bray, chairman and CEO of Mr. Cooper, said. 

Owned MSRs reached 46.3% of the servicing portfolio mix in the third quarter, compared to 49.5% in the previous quarter. The company acquired $5.9 billion in MSRs in the third quarter and has $6.3 billion in acquisitions closing after the end of the third quarter.

On the origination side, the company’s pretax operating income reached $45 million for the quarter ended in September, representing a 29% decline quarter-over-quarter and a 83.3% drop year-over-year. Mr. Cooper originated $5.7 billion from July to September, down 26.1% compared to the previous quarter and 71.2% compared with the same period in 2021.

How are higher mortgage rates affecting servicing?

Acra Lending’s Eric Friedman said the servicing business right now is a “delicate balance between complying with regulations and servicing a loan for investors.” 

Presented by: Acra Lending

Calling it “the most extreme shot the industry has experienced,” with mortgage rates more than doubling year-to-date, Bray noted that the company will realign capacity to a smaller market, hinting of additional layoffs. 

Bray added it will “streamline overhead costs where appropriate,” as “the rate and term refinance opportunity is basically non-existent, and now we’re seeing the cash out market coming under pressure, as many of our customers who would like to tap their equity are facing an affordability problem,” he told analysts during the earnings call.

Mr. Cooper announced layoffs of about 420 staff members in the second quarter, in addition to about 250 employees in the first quarter.

The firm ended the third quarter with $854 billion in unpaid principal balance (UPB), a 6.2% increase quarter-over-quarter and 28% year-over-year on strong subservicing growth.

The Dallas-based Mr. Cooper posted a record level of liquidity of about $2.3 billion, which it will use for working capital needs and MSR acquisition, executives said. As of September 31, the firm had $530 million in cash and cash equivalents, up 3% quarter over quarter and down 27.4% year over year. It also repurchased 1.1 million shares for $50 million during the quarter. 

Looking forward, the company expects earnings before tax for the origination segment to “roughly break even” as it did in the third quarter. The servicing segment looks promising – it’s projected to generate at least $125 million in servicing income in the fourth quarter, as a function of a better mix of lower amortization and a higher interest income. 

“Since our last call, the consensus is now projecting the Fed funds rate reaching nearly 5% in 2023, which is almost 150 basis points higher than where expectations were last quarter. So I describe the outlook for servicing and 2023 as excellent,” Marshall said. 

Executives emphasized that its strategy will be to drive down unit costs and invest in automation projects while managing capacity in the short term. Mr. Cooper acquired Right Path in the second quarter and has been investing in project Flash, which automates the middle office processes and continues to reduce costs to originate. 

“These investments will help us exit the cycle with a very strong platform and even higher levels of profitability, but in the short term, our priority is managing capacity,” Marshall said. 

The company’s stock was trading at $41.65 at about 11 a.m. EST Wednesday, down 6.72% compared to the previous day’s close.

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