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Mortgage lending volume will increase in 2016, but companies that differentiate themselves by reducing risks to investors will come out on top.
When TRID came on the scene in October, it was accompanied by red tape and confusion. Mortgage professionals focused on origination and getting loans to close. Lenders didn’t have much time to consider what investors would want to see in the loans once closing was finalized.
Now, loans from that initial hectic transition are being sold on the secondary market. Many in the industry believe minor violations won’t deter private investors. Yet a mere five percent of private investors have inched their way back to the residential mortgage-backed securities (RMBS) market since the 2008 housing crisis—with many of them purchasing only jumbo loans. It’s not that TRID violations are scaring them off, necessarily, it’s that errors are simply another indication to the other 95 percent that the RMBS market is too risky. They don’t want to take on the additional risk that all TRID loans carry—the umbrella contractual obligation that the purchaser must prove a loan was originated in compliance with the law.
This was the case for WJ Bradley, a lender that recently lost its warehouse funding because it had jumbo mortgages with TRID issues on its line of credit. Lenders, especially those that originate jumbo loans, need to find a way to assure private investors that their loans are low risk.
To ease the fears of private investors, three lending trends are emerging: New reps and warrants in the marketplace, corrected/clean TRID loans to ensure good ratings, and proof of compliance. Lenders who understand and implement these trends will pull ahead of their competition.
1. New reps and warrants
It will be difficult to understand the true impact of TRID loans in the market until the first ones go into default, most likely two to three years from now.
Private investors need to have enough confidence in the RMBS market to take up more and more of the GSEs’ load—more than just jumbo loans. That means lenders need to be aware of what investors want to see in the secondary market when it comes to reps and warrants, and plan accordingly. The private securitization market needs to solve this problem and not lean on the government.
Structured Finance Industry Group (SFIG) has some recommended solutions in its November green paper—an update of its recommended best practices for alleviating disparities in the current reps and warrants. These include standardized industry best practices for such reps and warrants as No Modification, No Mechanics Liens, Early Payment Default and No Rescission, to name a few.
Reps and warrant changes might not seem like a threat to your business model, but the painful lesson of TRID’s long transition period and last-minute interpretations are perfect examples of why you should start now—even if it takes some time for SFIG’s suggestions to become industry standards. Looking ahead and developing processes in advance will lighten the considerable load that new reps and warrants could present in an already rule-heavy environment.
Non-agency loans with TRID violations are sitting on warehouse lines. The cost to offload these loans is as much as a 10 percent discount. When one considers the bulk of this business is in the Jumbo space it does not take long to rack up major losses. Loans without infractions from the start will generate the most profit, since they won’t need to be offloaded into the scratch and dent market. This is the first trend in mortgage lending that originators can profit from, especially if they adapt to it quickly.
2. Corrected/clean TRID loans
Loan rating agencies are now saying TRID violations won’t make a huge difference to the secondary market. But there are other statements from the same agencies that many industry professionals might not catch the importance of at first. Consider Kroll Bond Rating Agency’s recently published report:
“In instances where these (TRID) violations go un-corrected by an originator, KBRA believes the risks associated with TRID-Eligible Loans, in material concentration, become more significant and that KBRA may consider additional credit enhancement, applying a rating cap, or declining to rate the transaction.”
The second lucrative trend in mortgage lending will be ensuring that TRID violations have been corrected/cured. If this is not done in time, loan ratings will be impacted, resulting in lower value pools. A credit risk can be AAA rated, but with TRID violations that weren’t cured in time the rating will slide down to D, reducing its value on the secondary market.
A “good enough” business model will never reach its full potential. Author Jackson Brown Jr., known for his best-selling Life’s Little Instruction Book, said, “A racehorse that consistently runs just a second faster than another horse is worth millions of dollars more. Be willing to give that extra effort that separates the winner from the one in second place.” If mortgage lenders want to remain successful, they will need to reach beyond “good enough” and originate clean TRID loans from the start.
But even perfectly originated loans, by themselves, need another value proposition to draw out risk-averse private investors:
3. Proof of compliance
Even if a loan is 100 percent TRID-compliant, you must be able to prove it for it to be worth anything. Proof of compliance is possibly the most lucrative mortgage-lending trend of all.
In the current regulatory environment, proof of compliance is difficult and costly. It’s not only true of TRID’s 2,000-page rule, but also with UDAAP, FCA, and every other offshoot of the Dodd-Frank Act statute. With so many rules, total proof of compliance has become something of a unicorn in the industry: an elegant, mythical thing that few people believe exists.
But a unicorn in the business world is another thing altogether—it’s a company that creates unprecedented success. Businesses that look beyond the complications created by compliance are profit centers ready to be realized. In the words of Henry Kaiser, father of American shipbuilding, “Problems are only opportunities dressed in work clothes.”
Every good salesperson knows that to make a sale, they need to understand their customer’s pain points. Jon Burgstone and Bill Murphy Jr. wrote in their book, Breakthrough Entrepreneurship, “The more acute the pain or problem, the more likely it is that you’ll be able to offer a compelling solution. The more compelling the solution, the more quickly the customer will pay.”
A lender’s ultimate customer is the secondary market, and lack of proof of compliance is a massive pain point for private investors. It’s expensive for the secondary market to discover problems. Once these loans are out for bid, it’s a stare-and-compare, manual process.
The sidelined private investors would be far more likely to re-engage if they saw proof of compliance and loans fit for sale at close. There could even be price incentives for those lenders that can prove consistent accuracy of compliance. Problem, meet profitable opportunity.
Success is in the details
Success tends to favor the detail-oriented, those “racehorse” businesspeople who care and strive for that extra second. Take note, mortgage lenders: These granular particulars will make all the difference in the value of your loans. New reps and warrants, TRID compliance and proof of that compliance will make loan purchasers sit up and take notice. Don’t let these three lucrative trends pass you by.
Wes Miller is CEO and co-founder of ATS Secured, a new technology category for the real estate closing industry. Miller has extensive experience in developing and marketing both core and ancillary financial products. Wes has been recognized for his success in sales, customer service and training support staff. He may be reached by e-mail at Wes.Miller@ATSSecured.com.
This article originally appeared in the May 2016 print edition of National Mortgage Professional Magazine.