Six years ago Joe Garrett and I co-authored an article called "The Seven Deadly Sins of Mortgage Bankers". The article examined seven key mistakes many mortgage bankers make when operating a company. After reviewing more than 120 companies since we wrote that article, the same mistakes are still prevalent today.
Let’s take a look at the seven deadly sins of mortgage bankers:
- Focusing on volume: Yes we need to produce loans in order to have the opportunity to generate revenue. However, loan volume is only one of the components that help generate profit. Managers must also focus on loan quality, infrastructure, productivity and margins.
- Not knowing your profitability by channel: Averages can be deceptive and provide misinformation about the real sweet spot. Understanding profit margins by origination channel will help managers deploy capital to the channel that creates the best return on capital
- Not knowing your profitability by product: Again, averages are deceptive and some products require a higher reserve. For example, those subprime loans originated in 2005 that generated 200 basis points probably resulted in an overall negative margin for the entire book of business.
- Not tracking returns on capital: Mortgage bankers have limited capital and must decide how to deploy capital to generate the highest overall return. Management must analyze how much capital is required for origination channels to produce certain mortgage products.
- Not having absolute control over the lock function: This one sin can bury a mortgage banker overnight. Without proper policies, controls and reporting, interest rate volatility can create large losses. We also see a centralized lock process as being imperative to ensure adequate secondary market margins.
- Getting too smart about interest rates: Mortgage bankers should be delta neutral on interest rate risk. In other words, protection of secondary market margins at lock is the goal. Speculation on the direction of interest rates is not.
- Taking credit quality for granted: After the mortgage meltdown, we are finding all loans sold to investors are really sold with recourse. Mortgage bankers should generate and close loans as if they are lending the money to borrowers using their own money.