The times that we are in right now are unlike any other time. I pray that everyone stays safe and that this pandemic comes to an end quickly. I pray for the successful recovery of those who are ill.
I bet by now every one of you knows someone who has been affected by this virus – either physically or financially. The uncertainty in the world has caused some major volatility in the markets.
Unemployment is now in the millions and it will impact every aspect of our country.
We are about to walk into a tsunami that is going to make 2008 look like a small wave and I am here to explain why.
In the end, I do believe, like we always do…we WILL come out of this stronger and better…but it is the in-between time that is going to be very difficult.
For the sake of simplicity, I am going to stick with the basics so that you understand what is going on and the implications that follow.
I am going to cover parts of the mortgage industry that most of you have little knowledge of, but are hugely important.
So, let me tell you what is happening. I will start with mortgage servicing.
Mortgage servicers are the ones who “service” your loans. They don’t own the loans. FNMA, FHHLC or GNMA are the ones who typically guaranty the loans and those that buy the mortgage backed securities are the ones that “own” the loans. They get sold and then you have a servicer that collects all of the payments. They get paid a premium to do so. Typically, the time span for a borrower to keep a home loan has been 5-7 years before they either refinance or sell the house etc.
Except for when there is a huge swing in interest rates…people will refinance, and the originators will close more loans and then those new loans will go back into the servicer’s portfolio once again. That is typically how the world has worked.
A servicers portfolio is directly determined by where current interest rates are. The lower the rates, the lower the value of the servicing portfolio because people are prepaying quicker than the industry standard.
Here is where it gets interesting…so now, not only do we have a very low and very volatile interest rate environment, but we also have MILLIONS of people that have lost their jobs and we are about to have MILLIONS more join them…and they are about to stop making their mortgage payments.
The government market is in BIG TROUBLE!! These are your first time homebuyers, people with compromised credit, higher debt to income ratios…not a big savings, living pay check to paycheck in a lot of instances…. They cannot survive if one the wage earners or God forbid both of the wage earners lost their job.
Our government came up with a forbearance program – which means that you do not have to make payments – HOWEVER….when you are a mortgage servicer on a government loan, the SERVICER has to make the payments to the investor regardless of whether or not the borrower makes their payments or not.
Can you see where I am going with this?? So now we have servicers fronting money on a loan, hoping that one day they get paid back! Until it goes into foreclosure…which can take years.
There are millions of people about to not have a job.
We are about to see HUGE changes in government lending. Guidelines will be tightened greatly and the pool of homeowners that qualify will decease dramatically! It is already happening. I have seen minimum FICOs go from 580 to 680 overnight because no one wants to take that higher risk. I expect this to continue to change daily, much like what happened in 2007-2008.
If you are currently in the home loan process and you fall into the lower credit score or government loan category, I urge you to contact your lender often to make sure their guidelines have not changed.
On a conventional loan, the amount that the servicer has to pay when someone stops paying their home loan is limited to one payment…on a government loan it is UNLIMITED!!
So what we have is a tsunami of people, all at once, about to not be able to pay their mortgages. The govt is trying to figure out how to mitigate this and things are happening quickly. You must understand though that this “bail out” money (for lack of better words) being given to the servicers has got to come from somewhere…the money isn’t going to just appear out of thin air. We will get more into debt as a nation. It will take years to truly get through all of this.
It is important for all of us to realize that we are in the same boat and we will navigate through these changes together. I would expect though that mortgage guidelines will change rapidly and we are just going to have to work through them. This will mean less people qualifying that even the week before this and there is nothing that we can do about it. Changes WILL happen.
Non-QM loans – bank statement loans etc. – those are GONE overnight. Bond loans are all but gone because no one wants to take the risk. The jumbo loan market has significantly decreased. Things are going to change.
I have already seen many very large companies not even let you lock a rate in until the loan is going in for clear to close. There are other companies that have paused all lending and closings for a few weeks. When you pair huge volatility with huge risk of even getting paid = cease of business….they are just gong to stop or pause until the roller coaster is over.
It is even more important now, more than ever, to work with ONE person you trust versus shopping around for the best rate. Rates are changing rapidly up and down multiple times a day. My advice is for you to choose a loan officer and stick with that person.
Next, let’s talk about what it truly means to lock in a rate on a home loan…
There are 2 kinds of locks:
- “BEST EFFORTS” locks – basic definition is that a company locks a loan and they will do their best to deliver that loan. If they don’t, they aren’t penalized. Most companies don’t do this because it means that the interest rates offered to their clients are higher and it makes them dramatically less competitive.
- “MANDATORY DELIVERY” locks. Now, most of the big players in the mortgage industry do this because it is a way to have better pricing (lower rates) BUT, just like it says…the mortgage company is now obligated to deliver that loan at the agreed upon price.
When you do mandatory delivery, mortgage companies have built into their models a fall out rate that is expected to happen if people walk away, cancel contracts etc…and let’s say that that is typically 15% fallout on any given month.
So what do they do? They hedge mortgages. Hedging in mortgage is most simply defined as selling in the future. You lock a loan and the purchaser agrees to buy it at a certain price. For example, a rate is locked at 4% and the buy rate for that interest rate has an additional 3% spread built into it and that is money for the mortgage company that is originating the loan…money use to pay the bills and then net the rest for profit.
What you have to understand is that this makes a mortgage company contractually obligated to FNMA, FHHLC, GNMA or whoever to deliver the loan at that rate with that pricing….BUT the borrower is in no way contractually obligated to us! So they can walk if rates go lower. No consequence for them…huge consequence for mortgage companies.
Guess what though?? The mortgage company is still obligated to deliver that loan with that profitability at that rate…even when there is no longer a loan to deliver. We then have to pair off with the buyer where we give them another loan OR we give them the difference. This is MILLIONS upon MILLIONS of dollars.
SO, if you have a bunch of locked loans for mandatory delivery and rates fall quickly, the mortgage company is going to lose a lot of money.
This is going to cause problems for some mortgage companies who are not prepared.
Quick decreases in rates is NOT good for us…for mortgage companies. The Fed buying the mortgage backed securities is actually HURTING us because it is causing rates to go down further in a market that cannot handle the decline because of everything else that is going on. It messes up the hedging and potentially the only chance of profitability that a mortgage company has.
The bottom line is this:
This is what I want you to think about….
First and foremost, our health is most important…we need to get this virus under control so that everyone can go back to work. While we don’t know how long this will last, we just all need to work together to work through it.
I have faith that we will come out of this and bounce back like we always have. We just have to be smart about it. If you are getting a home loan, know that things might change…choose your mortgage company wisely and when you agree to a rate to lock at, stick with it for reasons that I just stated.
We are in this together. Things are going to change. It is going to be a different world.