Residential mortgage fundings are down, a result of a combination of higher interest rates (although they’re still not very high) and housing costs, primarily caused by rising material and labor costs.
Fewer homes are being bought, so there’s a softening in the housing market. Since the 2008 Financial Crisis is still very much in living memory, many of us think we hear ominous music, a harbinger of a banking crisis that could trigger a new recession.
So, it should be remembered that banks weren’t the cause of the problem 10 years ago, but rather among the victims, and they’re in very good shape now. Then, the issue involved mortgage defaults that the private sector couldn’t sustain. As just about everybody knows, the major cause of those delinquent loans was bad mortgages that shouldn’t have been made in the first place. Those deals aren’t being done today, so we can stop worrying a bit.
But there are some red flags waving.
And the breeze is blowing from the segment of the residential mortgage industry that makes the majority of home loans. Not banks, but mortgage companies.
The massive conduits that keep cash flowing to fund home loans through mortgage backed securities, Fannie Mae, Freddie Mac and Ginny Mae, are taking a look at the situation, and they’re getting just a bit nervous.
Ginny Mae (Government National Mortgage Association) is the oldest of the three government sponsored enterprises (GSE’s). It was formed to buy FHA and VA home loans and package them into investment securities that are marketed to investors, large and small. Ginny doesn’t make loans, and doesn’t service them; it simply guarantees payment on the investment.
Currently, Ginny Mae has about $2 trillion of loans guaranteed, 61 percent of which are serviced by mortgage companies, which means they collect the payments from borrowers, and then remit the money to retire the MBS and pay interest. What’s causing those red banners to unfurl is that recent studies show that around 33 percent of these mortgage companies are unprofitable. By way of comparison, almost every bank in the country is profitable today. So there’s concern regarding the viability of the major producers and servicers of U.S. home loans. There are some very big numbers here, that could be quite scary; do the math. (I mean that. You do the math. That number’s too big for me.)
But wait, aren’t these FHA and VA loans insured or guaranteed by the federal government? How can these companies get hurt? Sure they are, but there are a lot of ways that a mortgage servicer can suffer a severe liquidity shortage. It takes a lot of time, money and personnel to service a home loan. For example, there’s no mortgage insurance or guarantee payment from Uncle Sam until the foreclosure process is complete. That can take months, often more than a year. During that time, the servicer has to pay real estate taxes, keep insurance in force, winterize the house, keep the property secure, repair major damage, and mow the loan, and pay all the people to do this stuff. Get a lot of foreclosures and, even if you’re a billion dollar company, you can run out of resources very quickly.
Mortgage companies must follow all of the laws relating to mortgage lending, and there are a lot of them, and adhere to generally accepted accounting principles to stay in business, but they’re not regulated by anybody the way FDIC insured banks, thrifts and credit unions are. If a bank looks like it’s at risk of losing money because the loans it’s made are going bad, the regulators move aggressively and quickly to compel that institution to increase its reserves and shore up its capital.
Nobody does that with a mortgage company. Rather, the GSE’s, Fannie, Freddie and Ginny, limit who they do business with, by requiring sufficient capital, and monitoring that capital level regularly, or by simply cutting off a servicer from delivering any more loans. In the latter instance, the damage is likely already been done. These measures are good, but maybe not good enough, especially considering how big a player the mortgage firms are in the real estate lending industry.
I once worked for a very small Savings & Loan, in a very small town. The chairman of the board had a favorite saying: “You’ll never go broker making a profit.” Flip the coin over, and, well, you get the idea.
Pat Dalrymple is a western Colorado native and has spent more than 50 years in mortgage lending and banking in the Roaring Fork Valley. He’ll be happy to answer your questions or hear your comments. His e-mail is [email protected].