Our mortgage banking clients continue to experience delays in the loan purchasing process. This issue reflects an increase in refinance application volume. The uptick in production activity combined with heightened compliance requirements and a greater number of investor overlays has clogged back shop operations. There is a way around this though, sell direct to the GSEs.
We've discussed this subject in the past, but I wanted to expand on the underlying logic for anyone considering the idea of obtaining GSE approvals and selling loans servicing retained. There are a couple of caveats that everyone must be aware of first...
You must have a net worth of $2.5M and be profitable for the last 4 quarters. This doesn't include the pending interpretation of risk retention reforms created by the Dodd-Frank Financial Reform Bill.
In the past, selling loans directly to the agencies through a servicing retained agreement was not as profitable as selling loans to the major conduits. Loan investors were paying aggressive servicing release premiums so the incentive to sell directly to the GSEs was small. In addition, you might have been able to book a profit after acquiring servicing rights, but in order to be competitive in the primary mortgage market (consumer pricing), one had to subsidize loan price with their own cash. In other words, you might be able to book non-cash revenues of 150 basis points, but needed to use 75 basis points of those revenues to be competitive in the primary market. The 75 basis points is a cash expense, which created a liquidity issue.
Today the environment is a little different. Though rates are low and loan servicing will probably stay on the books for an extended period, servicing values may not be as aggressive as they were in the past. In addition, the major investors have substantial credit overlays that incur pricing adjustments and create reps and warrants liabilities. Often times, the GSEs pricing adjustments are less expensive than the major investors. Some would say, the conduits use these additional loan pricing adjustments to offset additional repurchase risks. That may be true, but we are still seeing a sizable increase in the number of mortgage bankers who are ditching their investor agreements in favor of direct seller/servicer relationship with the GSE and and GNMA. Most are not selling 100% of the product this way, but we see as much as 75% being delivered to the agencies through a servicing retained agreement.
What are some good reasons to embark upon this strategy?
- Increased Leverage of Warehouse Lines. The agencies take as little as 3 days to purchase loans. The major loan investors are taking as long as two weeks. If one can turn their funding line 8-9 times in a month, rather than the normal two times, a company can generate more production and increase profits
- Less Loan Level Pricing Adjustments (LLPAs). Direct access to the GSE's cheaper LLPA grid can create price subsidies and make your operation more competitive in the primary market.
- Eliminate Investor Underwriting Overlays. This is a big one for many owner/operators. We are seeing many shops request investor approval on loans before it is funded. This slows the process and adds underwriting costs, but it also reduces repurchase risk. Even if a loan has a DU approval, conduits have various credit overlays. By selling directly to the GSEs, a company can use the DU and be confident the loan is going to be purchased after funding. There is no prior approval fee when selling directly to the GSEs. The reduction in fees can then be allocated toward becoming more competitive in the primary market.
We believe, it makes sense to study this as another secondary market alternative. We do however caution that pending risk retention interpretations will play a role in the decision making process. READ MORE
