The “man behind the curtain” is the “big banks”
How the big banks are fueling legislation that is hurting the housing market but will benefit them in the long run.
When we look back at the crazy housing market in the mid 2000’s, there were a lot of things that fueled crazy loans and crazy home prices. However, the dominant factor was rating agencies were lax or in on the profit. Brokerage houses were packaging MBS (Mortgage Backed Securities) and making large profits on the transactions. Legislation that was in place was not adhered to. In the end, there were products available that should not have been. Originators (like me) tried to advise people (I can’t tell you how many times I had a conversation where I told a client “I can get you approved for a larger loan than you are probably comfortable with. Let’s work to find something that you can afford within your budget”) but the lure of skyrocketing housing prices caused home buyers to pass on logic and bet on the come. There were poorly conceived loan products available. No one disputes that fact. However, the response to that fact has created a far worse outcome.
Most of the actions of the Fed, the “government” and the legislators have amounted to closing the barn door after the horse has run out. In addition, the big banks are influencing legislation for their benefit. The state of CA passed legislation restricting “Option ARM” loans a full 18 months after there were none available in the marketplace. As an aside, Option ARM loans are not really a bad thing. Option Arm loans for the wrong borrower, are a bad thing. For a self employed client with good credit and sufficient cash reserves, it can really be a useful loan option. Option ARM loans should not have been used for salaried individuals on a “stated income” basis or for folks with low down payments and low cash reserves. However, now they are not available at all, even for those who could benefit from them.
Let’s remember that most people were very well aware and had complete understanding of the loan products that they chose. However, they also wanted to believe that home prices could only go up. Option ARM loans and 80/20 loans and “No Income/No Asset” loans were unavailable in the market long before any legislation was passed to restrict or regulate these products. Market forces react surprisingly well to lower home prices. When financing is more readily available (easy money), home prices will go up. When financing is restricted (tight money), home prices will go down. The brokerage houses and rating agencies that allowed these issues to occur are off doing derivatives and making money in other arenas. However, the homeowners and homebuyers continue to pay the price. It is like the college athletic program that has some violations. The coach and guilty players move on unscathed but the athletes who remain are punished.
Let’s look at some of the changes forced on the Real Estate Finance and the Housing industries by government action. Remember that while some of these requirements were “legislated” (i.e. voted on by elected officials), many of the changes were forced upon us as “Rules” issued by the Fed or other “appointed” officials who are not accountable to voters and in many cases would not have been approved for their position if they have to pass a congressional inquiry (i.e., Elizabeth Warren, etc). They have incredible power, write up rules and make wholesale changes that profoundly affect our industry. They were not vetted or confirmed by Congress (Obama used back door methods of appointing them when Senate was out on recess and granting them special titles); Warren is the “Temporary” Director of the CFPB and as such has a quasi cabinet level position…and….no accountability to anyone but the president.
Here we go…. Changes foisted upon the industry and how it affects market participants.
1. Disclosures. The new Good Faith estimate was rolled out to collective groans of the industry a couple of years ago. The GFE is provided to a buyer from the lender to give the buyer an overview of anticipated costs and fees that will be incurred in the home buying process. The new GFE is now 6 pages instead of one. There are two items that DO NOT appear on the new GFE. Know what they are? One is the total amount of the monthly payment and two is the total amount of cash required at closing. Do you think these are two numbers that a home buyer would like to know? The new GFE law makes it illegal for lenders to use the “old” GFE so what nearly every lender or broker in the country has done is to create their own “cost worksheet” or some such thing (that doesn’t have the words “good,” “faith” or “estimate”) in the title and send the consumer a form that looks basically like the old GFE so that the consumer can actually figure out the costs associated with their home purchase. Who benefits from this? The big banks! Since the disclosures are so difficult to understand and convoluted, the consumer will go to a “big bank” that they trust and the banks can mark up their prices and profits without any consumer disclosure.
2. Appraiser “Independence.” This sprung from the idea that Loan Originators were “influencing” appraisers to meet certain values with the implied threat of withholding new work if the desired value wasn’t met. Reality is that most good appraisers truly appraised properties for what they were worth, perceived “business” threat or not. The upswing of this was from Andrew Cuomo (of NY) who had a legal battle with Washington Mutual over the use of “in house” appraisers who would (supposedly) be instructed to meet the required appraised value. The “settlement” created HVCC, the Home Valuation Code of Conduct. Of course, HVCC was a disaster. Loan Originators can no longer select the appraiser that they choose to work with. A group of companies called AMC (Appraisal Management Companies) have sprung up. Their job is to have a pool of “approved” appraisers on staff. When a lender orders an appraisal, the AMC will “randomly assign” the appraisal order. When the appraisal is complete, they “review” it for “quality control” and then forward it to the lender. How it works in the real world: The big banks own all of the AMCs and now handsomely profit on appraisal orders. The banks also select the appraisers who they want on the “panel” so they get what they want anyway. Good independent appraisers who built a loyal following for years now sit and wait in the “rotation” of the AMCs and get paid a small portion of the appraisal fee. On a $450 appraisal fee, it is not uncommon for the bank (oops, I meant AMC) to skim off $200-$250 and pay the appraiser the remainder. Lenders can’t speak to the appraiser in advance to get advice on how to handle a unique situation (should xyz be repaired prior to inspection, does it matter if the property is on a dirt road, are there any comps, etc.). Appraisers don’t have any incentive to do a bang up job as they get paid poorly and the lender who receives the appraisal can’t go “Hey, that guy did a good job, can he do my next appraisal?” Net result: Banks profit and consumers lose. Appraisal turn-around time is slow, appraisal quality is down, appraisal costs are at an all time high. Many top appraisers (and many of the most experienced) simply left the business as they were no longer able to make a living with the new system. Good stuff for the consumer, eh?
3. FHA mortgage insurance premiums have increased. At the beginning of last year, the monthly premium for an FHA loan (minimum down) was .55%. This is $45 a month on a $100,000 loan. Late last year, it was increased to .90% or $75 per month on a $100,000 loan. This last Monday (April 16th), it was raised again to 1.15% or $95 per month on a $100,000 loan. This is for one of the few success stories in the last few years. FHA is solvent and has gained market share and has allowed many 1st time owner-occupied home buyers to get into the housing market. We best punish those guys, right?
4. Loan Originator Compensation. One part of Dodd /Frank was to regulate Loan Originator Compensation. The Fed (without vote or vetting or congressional approval) imposed a “Rule” that went into effect on April 6, 2011. Loan Originators have historically been commission based employees, earning commissions based on a percentage of the volume of loans that closed. New rules and legal actions have forced originators to be salaried or hourly workers. In addition, commissions can no longer be based on any “terms or conditions” of the loan. Numerous congressmen, senators and agencies (SBA, ABA, MBA, etc.) asked the Fed to provide written direction or to delay the rule. The Fed never responded at all. Let’s review the “unintended consequences” of this.
- The rule was so poorly written that Barney Frank himself (the “Frank” of Dodd/Frank) asked the Fed to amend or delay the rule so corrections could be made.
- Commissioned Loan Originators who work for Mortgage Brokerage operations are basically unable to be paid properly.
- Virtually any “part time” originator had to be let go as no employer wants to pay an hourly wage or salary to a part time person. However, many of these part time people worked with underserved segments of the home buying public, including non English speaking people, people buying mobile and manufactured homes, people in need of credit repair and counseling prior to buying, etc.. These people are no longer available to serve their customers.
- Fewer originators mean less choices for consumers. In addition, if an Originator is paid incorrectly, the lender can’t even foreclose on the loan. Banks (who gain market share and profit from this) raised their rates and fees and are able to pay their employees less. Rate increases the day of passage and immediate wholesale layoffs of originators from the largest banks and brokerages were the result. Borrowers who need extra assistance or are looking for small loans will find far fewer options. Net result is negative for home buyers and borrowers.
In addition, changes that are PROPOSED but not yet “law” or “rule” will also have significant impact on people seeking mortgage loans. On possible result of the proposed end of Fannie and Freddie would be the 8 largest banks controlling the market. They want the market share and the government (especially Elizabeth Warren and the CFPB) want this. They will regulate lending to a far greater degree than they can when lending is more community based. Without Fannie and Freddie, small community banks, credit unions, and independent mortgage companies will have no option but to deal with the largest banks or get out of mortgage lending. Interest rates will rise and the 30 year fixed rate mortgage may go away entirely, or will certainly go up in price. Speaking of the CFPB, they take full authority in July and you can expect that they will further clamp down on lending options. There is a particular negative impact on “non bank lenders” as Warren, as the de facto leader of the CFPB has declared that half of her budget will be spent on the “regulation and punishment” of non-bank mortgage lenders. Obviously, this is better than going after auto lenders, credit card lenders and the numerous other industries that they are supposed to regulate. This helps the consumer, right?? One debate currently taking place is over what will be considered a QRM (Qualified Residential Mortgage). Any loan that is not considered a QRM will require the lender to retain a 5% interest in the loan. So, a lender has to keep $50,000 in cash for every $1,000,000 that they lend out. FHA and VA loans are excluded and (for now) Fannie and Freddie loans are excluded, but what happens when Fannie and Freddie go away? A part of the discussion centers around a 20% down payment or more to allow a loan to be a QRM, so what are buyers with less than 20% down to do in the future? Obviously, their options will be limited and come at a higher price. Interest rates are almost certain to go up in coming years. Foreclosures show no signs of abating and the numbers of delinquent (but not yet in foreclosure) loans is skyrocketing; an ominous sign for the number of foreclosure properties to expect on the market in the future.
In the end, nearly every government action has had the consequence (intended or not) of creating a negative situation for real estate prices and the housing market. The banks gain market share, gain profit, are legally incented to pay their mortgage originators less, and are legally able to structure their mortgage divisions where the bank makes more profit. Loan Originators who work for a “bank” are not required to be liensed. Only Loan Originators who work for a mortgage bank (non bank lender) or Mortgage Brokerage are required to be licensed. The licensing includes background checks, credit reports, fingerprints, education requirements, and passing state and federal exams. So, what happened to originators who were unable to pass the tests or meet other requirements? You got it. Tey went to work for the banks. In most areas the market peaked in 2005, and is (now) expected to hit “bottom” in 2013. Even once a theoretical “bottom” is achieved, it will be a long time before we see any signs of real appreciation. We must make it easier for mortgage applicants to obtain financing, not more difficult. There are many good, qualified, bona fide applicants who simply don’t “fit in the box” right now who are on the sidelines as they are unable to get a mortgage loan. We need strong effective leadership from people who truly understand the real estate and housing finance industries; not grandstanders and those who wish to dole out “punishment” to a segment of the business world that they don’t like. All of these actions that are supposedly in the best interest of the consumer have done nothing but harm the consumer and the economy at large. We will not have a sustained economic recovery in this country until the housing market recovers. Period.
This post was authored by Greg Brooks: thoughts are his alone and do not reflect Guild Mortgage and are not made as a representative of Guild. Greg Brook is Regional manager with Guild Mortgage Company (858) 437-2727
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