The Refi Boomlet Now, But The Long Term For Mortgages?

We are nearing the end of a decades long decline in Mortgage Rates. What happens when refinancing truly dries up?

The following is a reprint of my story in MortgageMedia

In my conversations with lenders, I have been reminded of one truth about this great industry where I made my career; we  tend to be very short-sighted. My caution is that while recession concerns have helped drive bond rates to new lows, and with the understanding they may go lower, there will be an end to this run and once the floor is found, the industry will be significantly oversupplied with lenders and loan originators.

Honestly, there are very few who have not been on the receiving end of this almost uninterrupted run of declining rates that began following the peak in the early 1980’s. While there have been periodic upticks in rates along the way, refinance activity became a key driver to bloating the capacity in mortgage lending. So, here is my caution to our industry about what will likely happen with the only question being, when?

Little Room Left: In order to have a refinance market in the future, there has to be room for lower rates. And if you look at where rates stand today, there is little room left compared to those years looking back. Even if rates level and bump around the current range, loans in the money will burn out. The graph above says it all.

GSE ‘Reform”: The long-awaited Administration GSE paper is expected to be released in the first week or two after Labor Day. Regardless of how it approaches the questions about legislation versus administrative reform, there is an expectation that the FHFA will administratively text steps that will affect the footprint of the GSE’s. Whether increased capital costs which will translate into higher mortgage rates or explicit policy changes that may restrict certain types of transactions that are deemed to be out of scope, it seems likely that a more conservative outlook will, at best, marginally worsen the GSE’s execution form some loans compared to private capital or FHA .

QM: The CFPB has announced that they will end the QM patch. Some have suggested that the GSE’s might just continue what they are doing regardless of the rule changes. Whatever happens, I find it unlikely that investors and lenders will take on the assignee liability of moving some of the loan volume from Safe Harbor to Rebuttable Presumption in co-mingled TBA pools. Whether requiring separate pooling or simply higher pricing to offset the risks, the end of the patch creates uncertainty and real challenges in making up the gap. The MBA has proposed a workable solution, but it  is rare that a regulator adopts a trade groups policy recommendation in full.

Recession: It is highly likely that we are headed to recession. Even if mild the cost burden on servicers with advances and personnel expense combined with other operational costs for any marginal increases in defaults will come on top of these other market and policy conditions that lay before us. 

What To Do?: In watching market corrections over past years I often find lenders in trouble trying to sell at the worst time based on some EBITDA multiple from previous boom years. In the end, these transactions often end up as a purchase for cash on hand and an earn out as smart acquisition experts know not to pay forward for past performance when conditions shift. Frankly, for some, it may be best to look at monetizing at the peak. 

For others with the capital and liquidity commitment and access to a dependable balance sheet, as I wrote in a recent Housing Wire blog, servicing may be one consideration for forward looking plans to weather the final slowdown. There are risks involved and I encourage any lender looking at this option to read my blog on the subject and consult an expert.

Bottom Line: A great friend in the industry who ran an IMB out of Birmingham, Alabama once told me that the key to success was to make hay while the sun shines and save enough to survive the downturns. Sage advice for sure, but this environment is different today. The industry has grown so large in size with more aggressive competition that, given the less likely refinance opportunity after this last gasp, it will be the best business models who focus on purchase transactions that survive long term. Discipline and forward thinking will be critical at a time like this. Let’s not get consumed with this temporary reprieve.