Surviving Mortgage Banking’s Perfect Storm

Surviving Mortgage Banking’s Perfect Storm

Providing Customer Satisfaction without Capsizing

By Rich Weidel and Paul Velekei | Princeton Mortgage

If there is any lesson that 2020 has taught us it is to expect the unexpected. COVID-19 was supposed to bring on another housing market crash, but it’s seen record-breaking growth since June after briefly put on hold during the outbreak of the pandemic this spring.

Despite looming economic uncertainty, highly controversial elections, and the aggravated spread of the pandemic, home buyers continue to quickly snatch up the relatively few homes listed for sale. Everything that was supposed to happen didn’t. So that makes things complicated when it comes to predicting what to expect in 2021 given that the dynamics remain complex.

Right now, the housing market is largely being driven by two factors: a shortage of available housing inventory and extremely low-interest rates. Double-digit annual growth in both list and sale prices show an extreme lack of inventory and incredible demand, a sign of a hot seller's real estate market. Housing prices have surged to new records due to very strong demand, but low mortgage rates are helping buyers offset this increased cost.

Does this appetite give a clear indication of what we can expect in 2021? The year 2020 was the perfect storm for mortgage lending and anyone who has more answers than questions right now is in danger of flipping their boat. We are in unprecedented times. Unemployment is at record levels, the stock market is at record levels, and the housing market is at record levels. This situation is not supposed to happen. Yet, here we are. Macroeconomics drives the mortgage industry, and the future isn't just complicated; it is complex.

There is a wide range of outcomes that can't be predicted with certainty due to the underlying complexity.

If we step back and look at the overall market cycle, here is what typically happens. Eventually refinances will slow due to two factors: interest rates will rise and everyone will have already refinanced. Over the next two to three years, the average annual loan production will most likely be lower than in 2020.

The industry spent 2020 building fulfillment capacity at a dizzying speed. Once things slow, all that capacity won't be needed. First, lenders will reduce margins to keep the production coming in, which drives profits down. Then the layoffs will happen because the industry will need to right size capacity (supply and demand). Interestingly, the decrease in lender margin will most likely drive another mini refinance boom.

So, the question keeping us up at night isn't "what" will happen; history is a pretty good teacher. Rather, we're thinking a lot about 'when' it will happen. Our ability to thrive in the mortgage business is contingent on our ability to master the market cycle. And the 'experts' are wrong as often as they are right.

One of the biggest unknowns going into 2021 is when interest rates will rise? After all, it’s what’s buoyed home buying and refinancings in the middle of a pandemic. So, what do the experts expect? Guidance from the Federal Reserve has the fed funds target rate remaining unchanged through 2021. The most recent FOMC survey suggests the fed funds rate is unlikely to change through 2022 as well, with all but one expecting the median rate to remain at 0.125. The FOMC Dot Plot has one dissenting opinion with a 2022 year-end fund funds rate of 0.625 percent.

Bank consensus generally agrees we will have short end rates remaining low with a marginally steepening Treasury yield curve through 2H’21. Capital markets suggest the same: futures and overnight index swap levels remain stable with only moderate upticks through the end of 2021 before expectations rise in 2022. An article in USA Today back in December cited economic predictions that the low-interest rate environment is here to stay until 2024.

All of this considered, we are cautiously optimistic mortgage rates will continue to stay low and even slightly decrease in the short and medium-term. However, if current expectations hold true, as monetary policy and treasury markets take shape through the end of 2H’21, we expect to see an acceleration in the rise of mortgage rates. Here’s why we think that. Given the industry dynamics and shifts over the course of 2020, we broadly expect this will compress margins and, overall, the mortgage rate environment will continue to stay favorable, as most economists are predicting the accommodative fed policy to remain intact past 2021.

In turn, this will produce continued refinance opportunities and sustain elevated volumes industrywide. We believe the velocity of this compression occurs rather quickly and the industry overshoots the required margin level needed for profitability. At which point, an inflection point, in terms of rate levels, occurs as required margins build back into mortgage rates. We think this will happen prior to any fed funds or significant treasury rate move.

You could think that this would provide a platform to achieve a fundamental change in the mortgage process, but the reality is that it is still very much a right-to-left process that is fundamentally unchanged over the last 20 years. Historically physical files would move from one department to the next: opening, processing, underwriting, closing, funding, post-closing. The industry still follows this same process, with the significant difference being that instead of physical files, we have digital files.

The promise of technology is an increase in productivity and a decrease in costs. Technology has not delivered these benefits across the industry... yet. Costs per funded loan are higher ($8,957 per loan in Q1 2018 vs. an average of $6,224 per loan from 2008-2018), and productivity per person has decreased over the last 20 years.

What we are learning is that technology isn’t the solution by itself. In fact, your systems architecture, your people, and your process along with your technology is what will ultimately drive success for mortgage lenders.

Our strategy is to give our customers what they want: a decrease in customer effort. Not through bolt-on technologies but our system architecture. To drive quality, productivity, and a decrease in costs (the holy grail of better, faster, cheaper), we are building bifurcated, parallel processes combined with AIempowered technology to decrease the need for manual, assembly line processes. We're only three years into our project and have grown from $5M per month to over $200M per month with a lifetime Net Promoter Score of 91 (top one percent in the industry according to NPS Benchmarks). In 2020, we’ve grown 200 percent, which we expect may have actually far outpaced growth in other parts of the mortgage industry.

The final question is regarding everyone's preparedness in the instance of another economic tempest following the implementation of the COVID-19 vaccine. We may be able to contain the virus’ spread, but mortgage lenders must brace for the next perfect storm to stay selfrighted.