Feb. 22, 2013: You'd better know the cost to produce a loan; smoldering non-agency security market; LO earnings - the tale of Picasso's napkin
Rob Chrisman

Do you know what it costs your company to produce a loan? I hope so, because if the president of a lender wants to do more business in 2013, or merely to maintain market share, they’re going to need to know the cost to produce a loan since margins are expected to drop significantly. And originating loans at more than your gain is not a long term plan. In my experience, banks are much better at setting budgets and knowing margins than mortgage banks or brokers, but management will need to be aware of exactly how low their margins can go: http://www.bloomberg.com/news/2013-02-22/fattened-margins-seen-shrinking-40-at-banks-mortgages.html before cutting overhead. And if your company was carrying below-average producers on the payroll in 2012, there is not much reason to think their productivity will skyrocket in 2013 (see comp story below).


With all this refi business going on, yes, those borrowers are pretty much removing themselves from the refi pool. (Yesterday a veteran branch manager stated to me, “Yep, every day, around the nation, as rates stay here and loans fund, thousands of refi are removed from the mix when they refinance with someone else.”) And experts think those folks are going to stay in their houses for a while, so now we’re seeing a move toward capitalizing on the $300 billion home improvement market: http://thebasispoint.com/2013/02/21/zillow-ceo-spencer-rascoff-goes-to-war-for-300b-home-improvement-market/.


“How much do you make?’ Chrisman asked rhetorically. The minimum salary for a major league baseball player for 2013 is $490,000. (“Baseball been berry berry good to me.”) Put that aside for a moment, and think about the IRS telling us that to rank in the top 1% of all US taxpayers (based upon 2010 tax data) required an adjusted gross income level of at least $369,691. But now we have a report, although from a very limited number of originators, showing that the majority of loan originators make $100,000 or more annually. Mortgage Daily’s 2012 Loan Originator Survey, which included 175 originators (120 who completed all the questions), showed that nearly 60% of respondents indicated that they made at least $100,000. And what I have heard from visiting with groups around the U.S. in the last several months is that originators are actually making more after LO compensation changes due to a) fewer competitors, b) sticky borrowers that don’t flit around, and c) the illegality of chipping in money at the closing table to make the deal work.


Most of those surveyed by MD do not work for banks, and more than a quarter are self-employed, meaning many could be mortgage brokers. A study back in 2011 found that mortgage brokers generated average revenue of 2.25 mortgage points per loan. How many low-producing originators chose to take part in the questionnaire? And as one report noted, “And salaries are always going to display an enormous range in the real estate business, mainly because there are those who work part-time, those who just entered the fray, and those who have been in business for decades that are well connected. (Real estate agents) made a median $34,100 in 2010. The median salary for those in business for two years or less was just $8,900, while it was $47,100 for those in business 16 years or more, per NAR. And 16% earned a six-figure income, revealing the major disparity among agents.


(This reminds me of an amusing story about Picasso’s napkin. The story goes that Picasso was sitting in a Paris cafĂ© when an admirer approached and asked if he would do a quick sketch on a paper napkin. Picasso politely agreed, swiftly executed the work, and handed back the napkin — but not before asking for a rather significant amount of money. The admirer was shocked: “How can you ask for so much? It took you a minute to draw this!” “No”, Picasso replied, “It took me 40 years”. In another story, a machine in a factory has malfunctioned, and the engineers on site can’t find the source of the problem. So they call on a retired worker who had spent a long time working with the machine. He comes in, walks up to the machine, looks at it for a minute, pulls out a piece of chalk and draws a circle around the screw that needs to be tightened. He then writes them a bill for $5,000. “$5,000, that’s ridiculous, all you did was draw a circle around a screw!” So he writes them a new bill: drawing a circle around a screw: $1. Knowing where to draw it: $4,999. Consultants tell folks, “It is not about your time, it’s about the value to your client. When you get it right everybody wins.)


Back to yammering about Realtors. NAR reported that U.S. home resales edged higher in January and left the supply of homes at its lowest level in 13 years. Existing home sales rose 0.4 percent last month to a seasonally adjusted annual rate of 4.92 million units, the second highest rate of sales since November 2009. Jobs and housing, housing and jobs – they will help the economy. The nation's inventory of existing homes for sale, which is not seasonally adjusted, fell 4.9 percent from December to 1.74 million, down 25% from a year ago and the lowest level since December 1999. At the current pace of sales, inventories would be exhausted in 4.2 months, the lowest rate since April 2005.


And while a large portion of the mortgages on those home sales wind up in agency securities, some end up in portfolios, and others in non-agency securities. We have a new Redwood Trust security coming out, and Kroll Bond Rating Agency (KBRA) assigned preliminary ratings to six classes of mortgage pass-through certificates from Sequoia Mortgage Trust 2013-3, a jumbo prime RMBS transaction. “The mortgage pool backing SEMT 2013-3 is comprised of 746 first-lien mortgage loans with an aggregate principal balance of $600,210,241 as of the cut-off date. The loans in the pool are all fixed-rate mortgages, primarily with 30-year maturities. The pool is characterized by substantial borrower equity in each mortgaged property, as evidenced by the average LTV (65%) and CLTV (67%). The weighted average credit score of the mortgage pool is 772 which is higher than average for recent SEMT transactions and well within the prime mortgage range.” It is rumored that Redwood may sell a top-rated class as large as $561.2 million with a 2.5 percent coupon at a price of about 102 (versus current coupon Fannie securities which are priced at 99 for a 2.50% coupon).


Redwood is pretty much the only game in town for non-agency activity, but this week JPMorgan Chase announced that it is seeking (this month) to sell securities tied to new U.S. home loans without government backing in its first offering in several years. Servicers of the underlying loans may include the New York-based lender, First Republic Bank and Johnson Bank. Bloomberg reports that “JPMorgan Chase & Co. is telling investors its deal's terms may allow some of the representations and warranties about the mortgages from originators or itself to expire after 36 months to 60 months – something Credit Suisse did on a deal late last year.


My guess is that Redwood is happy to have some company – they’ve been standing alone with Credit Suisse at the non-agency corner of the party for quite some time. Redwood created $1.1 billion of the debt in January, after issuance tied to new loans totaled $3.5 billion in 2012 and less than $1 billion in all of 2010 and 2011. But this “sunsetting” of reps & warrants is raising some eyebrows. Although Credit Suisse did it, and Standard & Poor’s said in a statement that the move didn’t affect its view of the debt’s risks, other rating agencies such as Fitch say that changes such as sunset provisions and clauses that void loan-quality warranties (if borrowers default after events such as job losses or illness) generally should require greater so-called credit enhancement. Credit enhancement can include some bonds taking losses before others, cash reserves or payments from the underlying assets that exceed coupons on the securities created.


And while we’re yammering about Redwood Trust, it just released its earnings for the 4th quarter: http://www.snl.com/irweblinkx/news.aspx?iid=103579. Analysts mostly viewed them as relatively strong, beating expectations. KBW reported, “…earnings were driven by strong mortgage banking income, partially offset by a higher credit provision…Redwood made $63 million in long-term investments (100% equity) down from $97 million ($88 million in equity) in 3Q12. Investments included $42 million of RMBS and $21 million of commercial mezzanine investments. At year end, RWT had estimated investment capacity of $130 million (vs. $141 million in 3Q) which should sustain it through 1Q13. RWT expects to need more capital in 2013. RWT completed two non-Agency securitizations totaling $622 million during 4Q. At year end, RWT had $561 million of loans held for future securitization with a pipeline identified for purchase of $2.3 billion. Since year end, RWT has completed two securitizations for $1.1 billion and has filed a prospectus for another $600 million deal. The company's goal is to securitize $7 billion of jumbo loans during 2013. At the end of 4Q, the company had 62 active loan sellers. At year end, RWT owned MSRs on $1 billion of jumbo loans with a MSR value of $5.3 million. Management also sees attractive opportunities to acquire MSRs on conforming loans. The company expects servicing fees to grow over time. Redwood has received approval to sell conforming loans to Freddie Mac and is in the process of getting Fannie Mae approval.”


And there are plenty of folks watching the non-agency markets, and the potential of HARP 3.0. Chris Kennedy with Equifax writes, “The smart money on RMBS (and there are 5,500 active RMBS deals out there) is positioning their portfolios for bond selection this year for HARP 3.0 - this has a very good chance to happen with the new budget deal. And the trade for 2013 is collapsing deals based on credit data match to loan level data. I am seeing investors are using the FHA short refi program for loss mitigation management. Equifax's data allows investors to basically re-underwrite the credit risk to fit HARP guides. If an investor owns 51% of the active UPB on a deal they can collapse the deal and trade it whole-loan at par. Most analysts agree that vertically integrated companies who own the RMBS bonds, are a servicer, and are an originator, have a distinct competitive advantage over pure RMBS investors – think Redwood, Fortress, or Carrington.” (If you’d like to reach Chris, e-mail him at christopher.kennedy@equifax.com.)


Chris points to a recent story on, “New Residential Implements Strategy to Drive Nonagency RMBS Growth.” “New Residential, a spinoff of Newcastle Investment Corp., announced two definitive ways the real estate investment trust will drive residential mortgage-backed securities opportunities for its parent company Nationstar going forward in 2013…told investors it plans to focus on nonagency residential mortgage-backed securitizations for growth opportunities in 2013…the nonagency RMBS market offers $1 trillion worth of investment potential. As a result, the real estate investment trust plans to buy attractive Nationstar-serviced securities by improving portfolio performance and collapsing deals, according to its investor presentation.” Last month Newcastle (with Nationstar as its parent) announced the establishment of New Residential, noting that it will be a publicly traded REIT primarily targeting investments including excess mortgage servicing rights and RMBS, and that Nationstar Mortgage Holdings would service 100% of the REIT’s nonagency RMBS portfolio. “Additionally, loans securing nonagency RMBS securities are often more valuable than the securities. Thus, New Residential stated that there is a 20-point discrepancy – based on differences between average price of securities and loans on recent purchase activity. Furthermore, collapsing deals often unlocks the ‘trapped value’ of underlying loans, which typically requires servicer cooperation.”


Turning to the markets, as mentioned above we had Existing Home Sales (only a 4 month supply?!) but we also were reminded that inflation is currently not an issue. The Consumer Price Index as unchanged for January – but heck, look at these ugly gas prices at the pump! Where did they come from? We also had Leading Economic Indicators increase .2% in January from a 0.5% rise in December.  Six of the 10 indicators in the leading index contributed to the increase, led by stock prices and the interest-rate spread between the federal funds rate and 10-year Treasury notes.


By the time the cows headed home Thursday the 10-yr was yielding 1.98% and MBS prices were marked higher (better) than Wednesday’s closed by nearly .250 in price. The New York Federal Reserve reported gross and net purchases of $15.0 billion in the holiday-shortened week ending Feb. 20. This equated to an unchanged daily average pace of $3.8 billion which compared favorably to under $2.5 billion from mortgage bankers. There is no schedule news today, and we’re looking at basically an unchanged market from Thursday’s close.



One bitterly cold winter’s day in Kansas a police patrolman came across a motorcyclist who was swathed in protective clothing and a helmet, stalled by the roadside.

“What’s the matter?” asked the policeman.

“Carburetor’s frozen.” was the terse reply.

 “Piddle on it. That’ll thaw it out.”

“I can’t.”

“Ok, watch and I’ll show you.”

The constable lubricated the carburetor, as promised. The bike started and the rider drove off waving. A few days later, the chief constable received a note of thanks from the father of the motorbike rider.

It began: “On behalf of my daughter, who was recently stranded…..”



If you're interested, visit my twice-a-month blog at the STRATMOR Group web site located at www.stratmorgroup.com. The current blog is how "Basel III Could be a Game Changer for Lenders and Servicers." If you have both the time and inclination, make a comment on what I have written, or on other comments so that folks can learn what's going on out there from the other readers.


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