Mortgage CFOs, CIOs: Rate Relief A Long Way Off
Eager for relief but fearing further losses, industry executives offer insights on a volatile mortgage market in transition.
Conflict in the Middle East, softening in U.S. labor markets, the outcome of November’s U.S. presidential election, whether lower borrowing costs trigger the return of bidding wars — volatility, most likely, will define a mortgage market in transition over the next three to six months.
“The Fed is trying to tiptoe a fine line,” says Jason Obradovich, chief investment officer (CIO) of New American Funding (NAF). “So there could be a lot of volatility between now and the end of the year. You’re also hitting an election and the holiday season, so there’s just a lot of factors that really could make the fourth quarter or maybe the beginning of the first quarter challenging.”
Madison Simm, chief financial officer (CFO) of Change Lending, agrees, given this convergence of uncertainties.
“Planning capacity, expense management, and then, obviously, getting ahead of pipeline and hedging activities,” he explains. “We are going to experience some elevated volatility as the MBS market, primary, secondary spreads, et cetera, digest this forward interest rate curve expectation. That’s on the forefront of my mind as a CFO.”
According to Simm, the biggest question the mortgage industry faces heading into 2025, which isn’t a new question, is the cost to originate a mortgage, which has not dropped meaningfully in 10 years. “That’s not my words,” he adds. “That’s people that track the industry.”
Unsurprisingly, consumer housing sentiment improved in September after the Federal Reserve’s 50-basis-point interest rate cut. Yet, mortgage rates have risen since the central bank’s move.
Many prospective homebuyers expect mortgage rates to decline in an orderly manner now an interest rate cut has occurred, but mortgage industry experts who understand that falling interest rates do not directly translate to falling mortgage rates are concerned with that easy optimism.
“The average borrower now is so keen and educated,” says Prateek Khokhar, CFO of American Pacific Mortgage (APM). “It’s become an interesting conundrum where this information, in a sense, works against us because the average borrower is like, ‘I think there’s more coming. I’m going to wait and hold onto my money.'”
Most mortgage lenders and originators have been preparing for the transition to a falling rate environment since the summer, aligning capacity and messaging with improvements in affordability and rising refinance volume. But, deep-rooted challenges still plague the market, like an intractable supply shortage, high loan production costs, and technological disruptions.
“I still think it’s going to be a relatively tight winter, and there’s some light at the end of the tunnel starting in March and April, but most of that will be due to seasonality,” Khokhar continues. “There could be cuts, but as we’ve seen, the cuts don’t necessarily lead to lower rates that lead to increased applications.” He calls himself “cautiously optimistic” for next year. “We think 2025 will continue with consolidation, which we hopefully will reap the benefits of."
In turbulent markets especially, mortgage company owners and operators look to economists and rate forecasters to help them navigate complex business decisions. But, should they?
After the inflation of 2021 proved not transitory, forcing the Federal Reserve to raise borrowing costs aggressively, economists across the housing and finance sectors chased recession warnings with shots of rosy predictions of near-term rate cuts. Capital markets priced nine rate cuts into 2024, with three occurring in March. The return of the housing market was around every quarter.
Obradovich characterizes this phenomenon bluntly — he, too, expected rate relief in 2024 before September. “I think most lenders we’ve seen in the last couple years have lost money under the presumption that it will be made up later, when this new market opportunity arrives,” he explains. “I’d be more curious to know how long certain lenders will be willing to lose money on hope because it seems like a lot of people in the industry, that’s kind of been their model.”
He also did not anticipate the lackluster response from the market after the Fed’s rate cut. “It seemed to land with a little bit of a thud,” he adds.
Now what keeps Obradovich awake at night is uncertainty of upcoming economic data, given that a “false positive” on inflation or employment could send the market into a tailspin. Either outcome of the U.S. presidential election, he believes, “could stoke fears about inflation and potentially negatively impact rates in a way that the market’s just not anticipating.”
“With changes to Realtor compensation coming out of the National Association of Realtors [NAR] settlement,” Change's Simm adds, “with regulatory oversight to mortgage compensation under the rules, the economics of where rates and margins are, what is the industry going to do to better rationalize the manufacturing cost of a mortgage to reset a part of that home affordability equation? How do we rationalize that number in the environment where almost every other swim lane of consumer services or products is becoming increasingly efficient?”
As the mortgage industry labors toward another tough winter, forecasting and real estate advisory firm, iEmergent, projects purchase volume to grow by 7% next year, refinance volume by 37%. Fannie Mae’s Economic and Strategic Research (ESR) Group recently downgraded its 2025 forecast, projecting total originations as increasing 15% from 2024 to roughly $1.5 trillion.
Fixers for the economy, economists sell a vision and a version of the market within which their employers transact. For lenders who would make the mistake of assuming economists are objective observers, remember: to salespeople, it’s never not a good time to buy. Many of these economists are employed by competing lenders, partners, vendors, and trade groups.
Rather than chasing economists’ best guesses, NMP asked a handful of CFOs and CIOs from across the mortgage industry to share their near-term and long-term expectations as the mortgage industry navigates this transition and plans for 2025. And, disclaimer: they’re not objective observers, either.
With millions of prospective borrowers waiting on the sideline, Kevin Ryan, CFO of digital mortgage lender, Better, has concern for consumers’ increasingly tight budgets, given the historically high consumer debt levels, elevated rates of auto loan and credit card delinquencies, the general pull-back on consumers’ discretionary spending, and the unfinished inflation battle.
“I think most people will tell you, the consumer’s clearly less liquid than they were even in 2019, but certainly than in 2021, 2022 when they had stimulus and savings and they were eating ramen noodles at home,” Ryan says. “As long as people have jobs, and things moderate, I think discretionary spending gets solved. I don’t know if it’s enough to tip us into a recession.”
While home price growth stagnated in August, it began inching upward again in September. Though the transition to a declining rate environment has begun, the Fed’s rate-hiking campaign largely failed to bring down property values on account of severe supply constraints.
“That just kept housing prices higher than we probably all would’ve thought when they started on the rate-hiking campaign, and that’s just crushed affordability. Affordability is in a terrible place,” Ryan says. Intercontinental Exchange, Inc.'s (ICE) Mortgage Monitor Report for October showed the average monthly mortgage payment reached a record $2,070 in August, marking a 7.2% increase from last year and a 19.3% rise since early 2020.
While improved borrowing costs are expected to drive increased demand in coming months, recent population growth, a growing pool of eager first-time homebuyers, and the supply shortage will likely only continue to support higher prices, Ryan thinks. Mortgage rates below 6% could be farther off than many people think — or hope.
Dan Perotti, CFO of PennyMac Financial Services, Inc., wonders how other mortgage CFOs are adjusting their interest rate strategy to account for the volatility exemplified by the recent rise in mortgage rates following the Fed’s rate cut.
“How are you working with the rest of your business to calibrate your capacity for the amount of volume that there may or may not be as interest rates have moved lower,” Perotti asks, “and how important do you see having the upside potential versus managing the expenses?” For large correspondent lenders and servicers like Pennymac, complex balance sheets require the balancing of even more variables, including how to finance operations in a transitioning market.
“How are you looking at the benefits of having different kinds of debt on your balance sheet to finance your position — fixed-rate debt, floating-rate debt — and the risks and benefits of each of those things,” he continues.
Though Perotti does not see any flashing red lights in the broader economy, he voices Ryan’s questions about the financial health of average consumers. He notes a distinction between consumers with mortgages and those that lenders see as prospective buyers, questions of a recession or soft-landing aside — it’s too soon to tell whether the Fed moved quickly enough to lower its benchmark rate to avoid more labor market softening.
“That could be the thing that I don’t think people are baking in right now necessarily that obviously has a risk both on the servicing side for mortgage bankers since that increases the costs and makes a lot of the activity around servicing more expensive and more difficult,” Perotti explains, “and also pulls out potential borrowers from being able to participate in refinances or the mortgage market in terms of the origination side.”
Some economic weakening that increases the pace of Fed rate cuts could be seen as an upside by some lenders, he notes, creating opportunities for other borrowers in the market. “One of the counterpoints to that is that folks generally speaking are sitting on so much equity in their homes. We see that as a pretty meaningful counterpoint if there is weakness in the economy.”
Even with Fannie Mae projecting only a $1.5 trillion origination market for 2025, Ted Ahern, CIO at Rate, formerly Guaranteed Rate, says the difficult steps the company took to right-size its operations over the past two years have enabled it to be profitable in a low margin, low volume market.
“We’ve always had a steady-as-she-goes, purchase-focus relationship with Realtors and builders and folks like that, joint ventures, that is very focused on purchase business,” Ahern explains, noting that the mass refinancing during 2020 and 2021 was a “once-in-a-generation” event. “These three-handle mortgages, I’m talking about 30-year-fixed rates, I think those are a long way off, unless there’s some sort of geopolitical, seismic shift the other way.”
Where other lenders are more specially built for refinance cycles, roughly 60% of mortgages hold notes under 4%, meaning those borrowers are unlikely to refinance any time soon. Ahern’s focus is on buyers, first, and the cost structure Rate has achieved is here to stay for now.
“We downsized the business pretty dramatically to get to strong cash flow, positive operating income. Very painful to get here over the last two years, extraordinarily painful,” Ahern continues. “We don’t think we’re going to a three-and-a-half-trillion dollar market or anything like that, but hopefully we’re into the twos in the next couple of years. We’re not going to add all sorts of fixed costs just because production goes up 10%, 20%, or 30% a year. The goal will be to work with the infrastructure that we have and do add-ons where it makes sense, do acquisitions where it makes sense.”
With technology playing an ever-increasing role in the lead generation, loan origination, and servicing components of the lender-borrower relationship, Rate’s “steady-as-she-goes” approach translates to Ahern’s outlook on technology disruption in the coming quarters. As generative artificial intelligence (AI) is rapidly brought to bear on the industry, “we don’t see loan officers going away anytime soon,” he says.
“A lot of the tech that’s being built, particularly around servicing retention, that’s targeting LOs for sure, and we still think there’s a long way to go there,” he explains. “Our core business, our core group of loan officers that just have relationships with traditional referral sources, that’s still the way a lot of the business gets done in the mortgage space.”
The technologies Rate has adopted to augment their LOs’ efficiency raise different, more immediate concerns around cybersecurity and fraud. AI adoption will amplify all of those risks.
“Those are real threats that could be highly disruptive to our business or to any of our competitors tomorrow,” Ahern continues. “I was CFO for about 11 years and that was the kind of stuff that really kept me up at night because the thing that’s going to stop a mortgage business from running is if you run out of cash, and you can run out of cash in a lot of different ways. Like, what’s the worst thing that could happen? And if that happens, are you protected?”
NAF’s head of investment, Obradovich, shares a similar focus on the “here and now,” he explains: the lack of purchase activity, regional supply variations that impact regional markets differently, and delinquency rates, given that NAF is also a large mortgage servicer. As for refinances, he observes the market as more optimistic than the data.
“We just think the market's a little bit more excited than how much business is actually being done,” he explains. “We think this will be very gradual, whether borrowers are looking to rate-and-term refinance from mortgages originated over the last couple years, or borrowers that need cash-out that are going to have to move up in mortgage rate. We see this to be a very slow migration, at least for the next six months. A year from now? That may be a different story.”
“Going from 1% refinanceable to 5% refinanceable is five times the amount of loans, and so I think to everybody, given the backdrop that we’ve seen over the past few years, this is a meaningful change,” Pennymac's Perotti comments on the refinance opportunity. “We don’t necessarily see that the multiple expansion, if you will, that we’ve seen is going to be continuously growing as we go down and that the pace of increases is going to continue to move up.”
Despite the Fed’s rate cut, borrowing conditions remain “very restrictive,” Obradovich says. “We do believe at some point the Fed's going to have to start moving at a more accelerated pace than what they have dictated over the next three, four, or five months. We believe that they’re going to act at a more accelerated pace mid-next year when we have the spring and summer busy season. We just feel like that’s where a bulk of the opportunity is going to be.”
“I would say right now,” adds Change’s Madison Simm, “if what the GSEs and the MBA are saying is accurate for 2025, where the market is going to grow between 25% and 30% year over year because of refi activity, how do platforms add back the capacity that they were compelled to shed over these last four to six quarters?”