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Bank consolidation continues; The basics of what the servicing sales mean for Lenders

Monday, March 24, 2014 - Article by: bcahoone - Global Home Finance Inc - Message

"The reason the golf pro tells you to keep your head down is so you can't see him laughing." Someone, somewhere, is laughing at the press' focus on "the return" of the subprime lending business. Well, maybe not, but certainly the American public is seeing it in the press.

Over on the banking side of things, consolidation continues. In California ("Eureka"), Grandpoint Bank ($2.0B) will acquire Wedbush Bank ($243mm) for an undisclosed sum. Not to be left out of things, in Texas ("Friendship") CommunityBank of Texas ($2.5B) will acquire Memorial City Bank ($280mm) for an undisclosed sum. In Ohio ("With God, all things are possible"), Westfield Bank FSB ($830mm) will acquire Valley Savings Bank ($128mm) for an undisclosed sum. And in Missouri ("Salus populi suprema lex esto") Commerce Bank ($23B) sold 3 branches to New Era Bank ($263mm) for an undisclosed sum. And investment banker KBW announced that CT's Salisbury Bancorp, Inc. and NY's Riverside Bank have entered into a definitive agreement and plan of merger in an all-stock transaction valued at approximately $28 million. The combined organization expects to have approximately $808 million in total assets, $630 million in total loans and $682 million in total deposits with 13 branch locations across Connecticut, Massachusetts and New York.

Yes, the evolution of the banking industry continues. At least we have the flood bill out of the way. (NAR's president Steve Brown released, "Realtors commend President Obama for signing into law the Homeowner Flood Insurance Affordability Act, H.R. 3370, to curb flood insurance rate hikes for homes and commercial properties...NAR welcomes this law for the relief and protection it will bring to businesses and families nationwide, who are experiencing financial hardship because of the extreme and sudden premium increases triggered by the Biggert-Waters reforms to the National Flood Insurance Program. We believe the law is a responsible and balanced solution to the skyrocketing rate hikes and will ensure a slow and steady phase in of risk-based increases.")

And who can keep track of the servicing business? Many folks attended the recently held IMN conference on residential mortgage servicing rights (MSRs) in Manhattan. The primary focus of attendees was on the regulatory front and the consensus view was the regulators might slow down the process and increase the costs but MSR transfers were going to continue. Another point that came up regularly was the sharp decline in returns on investing in prime MSRs as the number of participants in that market has increased sharply. Returns on prime MSRs were generally seen as being in the high single digits. Hey, that beats what I'm earning on my bank account!

Seriously, a representative of the CFPB was there (Laurie Maggiano) and went as far as saying that the CFPB's views on many of the changes that are happening in the servicing market, such as sales of excess servicing and servicing advances, is still evolving. Maggiano reiterated that the focus of the CFPB was on the impact that these changes in the market are having on the borrower. It's tough implementing new rules and successfully completed six million modifications! Selling large blocks of servicing is not quick, nor necessarily easy. Starting in 2014 the FHFA has had to approve all transactions over $3 billion in UPB. Interestingly, say people "in the know", it has a different focus from the GSEs so it adds to the time-line to close sales.

What will mortgage servicing look like next year? In five years? I don't know, but I do know that everything will change, in one way or another; from the interaction with the customer, to operational responsibilities, to information systems, to accounting valuation, to trading, it will all be conditioned to comply with governmental oversight. Last month CFPB Deputy Director Steven Antonakes, at the MBA's National Mortgage Servicing Conference & Expo gave a strongly worded speech in which he stressed compliance and industry expectations. Mr. Antonakes stated, "Nearly eight years have passed and I remain deeply disappointed by the lack of progress the mortgage servicing industry has made. For a man who has spent the last 24 years, the bulk of his career, as a banking regulator, his words should not be undersold. With "the fundamental rules have changed forever" and that "business as usual has changed in mortgage servicing," his comments ring loud and clear. The Deputy Director explained the CFPB's expectations to servicers: reach out to the customer, monitor transfers closely, honor any modifications made by prior servicers, forced place insurance as a last resort.

But the servicing buyers are out there. Prime MSR sales are very competitive with 15-25 bidders, 8 of which are very competitive. As a result returns on prime MSRs investments have contracted from the mid-to-high teens a couple of years ago to high single digits currently. And while we're on numbers, one driver of MSR sales currently is the high capital consumption with new MSRs being booked in the 110 basis point range. This makes origination meaningfully cash flow negative. A year ago MSRs were being booked at smaller levels and gain-on-sale margins were much higher so there was less cash flow pressure on originators.

What do these flow and bulk deals mean?Well, for one, many mortgage banks that thought they would hold onto their servicing for decades, and the steady cash flow from the asset, have found that they needed the cash now. Tax implications aside, they need to sell the servicing. Secondly, and in a related issue, the sale of servicing effectively bypasses the traditional aggregators. My capital markets gal at fictional "Chrisman Mortgage" may not like the SRP values that she is seeing by selling to Wells, or Chase, or by selling to the agencies and simultaneously spinning off the servicing to one of the agency's servicing partners. So we hold the servicing and sell it through bulk sales, or we sign a deal with a non-bank buyer to buy it on a flow basis. Either way, the implications to the traditional bank/aggregator correspondent business model are obvious, and not good for that channel. But how much experience do new servicers have in evaluating the cost to service? Time will tell, and although the marginal cost to service loans goes down as the portfolio increases, the regulatory and compliance costs are only expected to increase.

President Truman famously called for a one-handed economist, so he would not have to hear, "on the other hand..." But there continues to be a lot of conflicting information about the U.S. economy. And we have certainly learned, through developments in China, Europe, and Russia, that our numbers aren't the only determinant of rates.

But this week we have a fair amount of scheduled U.S. news that could nudge rates one way or the other. As I head to Denver this morning there is zip; tomorrow is Personal Income and Personal Spending/Consumption, and Consumer Confidence. There is also a slew of housing numbers: the House Price Index, S&P-Case Shiller numbers, and New Home Sales. On Wednesday, March 26th, Durable Goods Orders will reflect the new orders placed with domestic manufacturers for immediate and future delivery of factory hard goods. Investors watch this as durable goods is a leading indicator of industrial production and capital spending. On Thursday Gross Domestic Product (GDP) will represent the total value of the country's output; we'll also have Initial Jobless Claims and Pending Home sales.

Here's the one for and about economists, and efficient market theory.

Two economists are walking down the street when ones sees a hundred dollar bill and points it out to his friend. "Is that a $100 bill lying in the gutter?""No" his friend replies. "If it were a $100 bill, someone would have picked it up already."So they walk on by.

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