Just one quarter into 2018, financial institutions are already experiencing stress in the face of diminishing mortgage loan origination levels and increasing competition. The Mortgage Bankers Association correctly predicted this drop in business last fall.
Many smaller institutions are finding it more difficult to generate revenue through their mortgage lending operations, which obviously hurts industry profits. According to the MBA’s Annual Mortgage Bankers Performance Report, independent mortgage banks and mortgage subsidiaries of chartered banks saw their profit per loan cut nearly in half in 2017, earning only $711 on each loan originated, down from $1,346 per loan in 2016.
While 2018 will be a tougher year for lenders, originators can still generate solid revenue and profit for their institutions with effective marketing and loan fulfillment programs. Better than that, by focusing their efforts on the right products, they will also have the opportunity to build stronger relationships with existing bank customers and credit union members, positioning themselves for additional purchase money business when volume levels increase in the future.
The keys to success this year will be the same as they always are in this business: (1) excellent customer service, (2) good marketing to uncover the loan products in demand in the bank or credit union’s service area and (3) efficient operations to ensure a good customer experience and to reduce costs and increase profitability.
A more competitive landscape
In March, MBA estimated that the industry would write $1.6 trillion in 1- to 4-family mortgage loan originations in 2018, down from $1.7 trillion last year, or a 6 percent decrease from 2017’s volume. Meanwhile, the association said that refinance originations would decrease by 28.3 percent from 2017 to approximately $430 billion.
The picture would brighten somewhat by 2019, MBA said last fall, forecasting total originations to rebound to $1.64 trillion, with purchase originations of $1.24 trillion and refinance originations of $395 billion. But in the near term, MBA Chief Economist and Senior Vice President for Research and Industry Technology Michael Fratantoni told attendees of MBA’s annual conference last October that purchase money originations would be the most likely source of new business in 2018.
"We are projecting that home purchase originations will increase at a faster clip in 2018, nearly double the rate that they increased in 2017,” he said. “All the pieces are in place for stronger growth in 2018 and beyond.”
Naturally, lenders began to gear up to attract more purchase money transactions and now, four months into the new year, competition for this business has heated up significantly. Larger lenders are putting a great deal of money into television and radio ads and that’s putting pressure on smaller institutions that want to compete for this business.
But there is another opportunity for lenders, especially for those that know their customers well or service their own loan portfolios.
The home equity opportunity
Last fall, as the current administration was working out the 2018 budget with legislators, many feared that the deduction for home equity loan interest would be going away in 2018, doing severe damage to that line of business for mortgage lenders. That didn’t happen, which was good news for millions of home equity borrowers -- and for mortgage lenders.
The tax law was modified, however, reducing the overall amount of interest borrowers can write off depending upon the amount of total qualified residence loans they carry. The new law also clarified what home equity loans could be written off the consumer’s taxes based on their use of the funds.
The good news for both borrowers and the industry is that for the vast majority of home equity borrowers, the loans still make excellent sense. While cash-out refis are hot today, this is likely because borrowers fear higher interest rates in the future will make this too expensive.
Most experts agree that interest rates will continue to rise, which will make unsustainable the increase of lending business with cash-out refis. This will make home equity more attractive because they will be the best, lowest cost option for homeowners, even if the interest isn’t tax deductible.
Yardeni Research and others have estimated that there is currently about $5 trillion in untapped home equity in the market, making it one of the largest pools of consumer-accessible credit available. This could be an excellent source of new business for mortgage lenders.
But will consumers want to tap their equity? Current research suggests that they will. A recent study by TransUnion showed that despite rising rates consumers are still tapping credit cards, with business in that sector continuing to rise. Further, the credit reporting agency said it still sees strong demand for home equity lines of credit (HELOCs).
From the report:
“While increased interest rates will likely slow down refinancing activity, with rising home prices TransUnion expects to see many more homeowners tapping into their home equity. TransUnion forecasts approximately 1.6 million HELOC originations in 2018 and about 10 million through 2022. This is in stark contrast to the previous five-year period, when less than half that number were originated—4.8 million HELOCs were opened between 2012 and 2016. TransUnion believes the three largest uses for these new HELOCs will be: 1) debt consolidation to a lower interest rate; 2) financing a large expense, such as a home improvement, and 3) refinancing an existing HELOC or Home Equity Loan.”
This can be a critically important sector of the business for community lenders and credit unions, allowing them to remain profitable in an increasingly competitive market. Meeting the consumer’s needs for cash with home equity loans will be one of the most successful growth strategies for these businesses in 2018.
Making home equity lending work
As mentioned, there are three keys to success in this business. The first, excellent customer service, is beyond the scope of this discussion. Fortunately, those lenders that have survived this far into the recovery understand what it means to offer a good borrower experience and run a customer-focused lending operation. This will continue to be incredibly important for the success of any financial services company for the foreseeable future.
The other two keys have to do with marketing and with efficient operations.
Effective marketing for home equity
Professional marketers know that success comes from having the product that the consumer wants to purchase at a price the consumer is willing to pay when that consumer is ready to buy. We have already demonstrated that consumers are taking out more credit and that home equity lines of credit are competitive, from a pricing perspective, with credit cards. Experts are seeing growth all along this spectrum.
When it comes to home equity, the consumer is not in a position to take out a home equity loan or line unless they have sufficient equity in their home to enable the transaction. While this can be researched and determined by virtually any mortgage lender regardless of whether or not they control servicing by using a combination of public record data and AVMs, credit unions and community banks often have an advantage here because in many cases they do service their own loans. They know a great deal about their borrowers and the amount of equity they have in their homes, at least in terms of the initial loan-to-value. But there is no need to guess.
While any lender can compete for home equity loan business, community banks and credit unions that already have a relationship with a borrower are in the best position to get their borrowers’ home equity business, but they still must approach them first. Approaching them with an offer that they cannot use because they have insufficient equity in their homes will damage the relationship.
There currently exists a wide range of collateral valuation tools that lenders can use to affordably determine whether their borrowers have sufficient equity to approach for home equity business. Failure to make this assessment will leave the doors open for a competitor to market to these consumers. Even if they cannot easily determine the value of borrower’s equity, larger lenders have the resources to use shotgun marketing to unseat smaller institutions.
Efficient processes for home equity lending
And this is where the third key comes into play. Lenders must have an efficient method for determining which borrowers within their portfolios have sufficient equity in their homes to qualify for a home equity loan or line of credit. To accomplish this, lenders need access to a platform that can meet three key requirements: (a) it must provide easy access to a great many valuation tools, (b) it must be a compliant tool that offers the transparency lenders need to demonstrate that compliance to regulators, and (c) it must not require the lender to staff up to take advantage of the technology.
As financial institutions confront the headwinds of diminishing mortgage loan origination levels and increasing competition, originators can still generate solid revenue and profit for their institutions with effective marketing and loan fulfillment programs. While maintaining quality customer service and efficient operations, originators should focus their efforts on the right products, such as collateral valuation tools that will help them tap new business and build stronger relationships with existing bank customers and credit union members. That move will brighten both the mortgage market here and now and the financial future.