We're living through very historic times in the mortgage industry - times that people will refer back to for decades to come. And in recent weeks, there has been increasing angst and consternation over the state of the industry. Over 250 wholesale lenders have shut their doors over the last 18 months, some with such rapidity that many in the midst of obtaining loans were stranded without closing. But why?
Over the past several years, you know that many loans were made to homeowners with somewhat non-traditional or "non-conforming" situations, be it a poor credit history, inability to document income, or any number of factors that do not fit within the traditional "box" for home loans. These loans are often called "Sub-Prime", or "Alt-A", meaning that they are somewhat riskier in nature than "A" credit, prime, or traditional loans. There were also many adjustable rate loans done that were considered somewhat "exotic" - that may well have an ideal client that they are suited for, but may have been sold to many others that did not fully understand what they were getting.
As you also probably know, another type of "non-conforming" home loan is one where the credit and income might be perfectly fine, but the loan amount is higher than $417K, which is the current maximum loan that can be done using pools of money from mortgage giants Fannie Mae (FNMA) and Freddie Mac (FHLMC). If the loan amount is higher, it can certainly be done - this is of course a "jumbo loan" - but the end money comes from private institutions, not from the large government sponsored entities of Fannie and Freddie. The Economic Stimulus Package passed in February may raise the conventional limits in many high cost housing markets across the country, but will likely have minimal impact to Oregonians.
Most non-conforming loan product rates popped significantly higher, almost overnight. Here's what happened.
The end investor for Subprime or Alt-A loans will charge a premium for taking on a pool of these loans, because they know that traditionally, they might have a higher rate of default and delinquent payments within that risky pool. But lately, default and foreclosure has been on the rise - partly due to the fact that with credit tightening and a soft real estate market, many troubled homeowners are unable to refinance or sell in order to get out of trouble. So now, these end institutions are demanding a much higher "risk premium" for taking on these pools of loans, as they see the rates of default are climbing higher.
But since these institutions are purchasing these pools of loans sometimes months after the borrower has actually closed at a given rate, this increase to the risk premium means that instead of paying $101K for a $100K loan that will bear interest, they may only be willing to pay $95K for that $100K mortgage to account for the risk. Multiply that times thousands upon thousands of loans...and you have millions upon millions of dollars in loss for the company trying to sell the pool at a much lower price than they were expecting. This is called a "liquidity crisis", and is exactly what happened to several major national wholesale lenders - there was no mismanagement, but they simply got caught holding too many "hot potato" loans, forced to sell them at massive losses...and eventually they had to make the decision to close the doors and stop the bleeding.
Further, even when a lender is able to take some losses, they may be subject to a "margin call". This means that as their losses and risk premiums increase, the value of their loan portfolio decreases. As the value decreases, the credit lines that are secured by those portfolios begin to issue margin calls as the value of the asset that they are secured on is now diminished. This is exactly like margin calls in the Stock market. If you have a loan against a Stock that is losing value, you will get a "margin call" and need to pay down the loan, as the underlying Stock is losing too much value to be considered adequate collateral any longer. So for the big lenders, as their portfolio is losing value due to increased risk premiums and losses...the margin calls start coming in, and they are required to pay down their balances. In turn, this means that they have less availability to fund their new loans, which then exacerbates the problem.
In response to seeing so many lenders go out of business, many lenders of other non-conforming loan products increased their interest rates dramatically almost overnight to be better prepared - and likely over-prepared - for increased risk premiums down the road. Even though loans above $417K are not presently suffering from increased delinquencies like the Subprime and Alt-A loans are, these rates popped higher as well in July and August of 2007 because they are being purchased by smaller private entities that can't afford to take on any margin of risk.
What happens next? The major damage is probably already done, and the present situation will likely settle out over the coming year. Lenders will stop pulling products off the shelf, and the rates on products that have moved so significantly higher now should trend lower down the road as delinquency rates stabilize.
Here are five things you should you do right now.
ONE: Get brutally honest with your clients, and let them know that the landscape has changed, and there are events that may impact their loan that are totally out of your control. Let them know you will keep them informed and advised every step of the way, but it is in their best interest to select a trusted lender like you, and work towards a closing quickly.
TWO: Send your database the special report we created for you at Mortgage Market Guide which explains current events, and advises them on what they should be doing, whether they are in the market for a home loan or not. For example, even if someone is not presently in the market for a home loan of any type, they should still be in touch with you to make sure that their credit standing is as solid as possible. Bet you'd agree that many people you talk to about home loans didn't necessarily plan in advance to ensure their credit would qualify them for the best possible financing. With no immediate need for a home loan, time is on their side...they should be planning ahead to make sure they are prepared, should a need arise down the road.
THREE: Give your referral partners copies of the report to provide to their clients, as well as hot prospects who are in the market for a home loan right now. The report will let them know that now is time to be working with a real qualified professional who can keep them informed of changes in the market and get their loan funded quickly...someone like YOU. Now is NOT the time to be playing the risky game of trying to scour the entire nation to find someone who promises to save you a paltry amount on costs, or deliver a rate that seems too good to be true.
FOUR: Get yourself reacquainted with FHA financing. It's a terrific program with market interest rates, allows for less than perfect credit, and has options for very little down. Also, make sure you understand how to do full doc loans...and if you need some refreshing, look no further than LoanToolBox which is loaded with great educational modules and training on all the above.
FIVE: Call your local Mortgage Insurance representative, as they will also be able to share with you their ideas for programs that will still be viable alternatives for lower down payments - and help you understand how to use mortgage insurance options to help save your clients money.
Ready for some good news?
These are certainly difficult times, but we're all in this together...and there will be opportunities ahead for those who persevere. What is happening now will create a dramatic shakeout in the industry. Many originators who were holding on by a thread may decide to get out, which will reduce the number of competitors out there for the rest of us to deal with.
Additionally - the loans being closed now at higher rates will be our next best refinancing customers when the market does settle out. Now is the time to be staying in touch with your database, and making sure they are informed and aware of the actions they should be taking now. Start out by sending your clients and referral partners the special report we've prepared.
We're also working with our friends at LoanToolBox to create a special kit which will include a power point presentation for you to take out to your referral partners, clients and the public, to help them understand what is happening, and why they need to be talking with a pro like you.
And if you want to really be prepared for new opportunities ahead - don't miss attending Business Plan 08. Not only will you learn from the best and brightest in the industry, but you'll leave with your own personalized business plan in hand, complete with specific action steps. The Mortgage Market Guide team will be at BP08 in full force, with insights, ideas and updates on how to find opportunity in this constantly changing market. To sign up now, just hit this link for more information.
While this is a difficult time - it does present great opportunities for those who are best prepared and in the know. Take action now to ensure that you are one of the survivors.
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