REQUIRED READING: It is no secret that Bank of America's exit from correspondent lending last year left wholesale mortgage bankers with a limited source of secondary partners. Even though there are exceptions, the reality is that Fannie Mae and Freddie Mac are the primary market entities for conventional wholesale production, while Ginnie Mae is the primary market enterprise for government loans. And there is a good chance that this will be the ‘new normal’ for the next several years.
The good news for the wholesale model is twofold: Quality is now steering the market, and the talent pool has been strained of the less-than-professional mortgage professionals who had polluted the entire industry.
Fannie Mae has done a commendable job in mitigating the risk profile of the loans it buys. Lenders can be comfortable in lending to people with products that can be run through Desktop Underwriter (DU) and approvals received through their automated underwriting system (AUS). Of course, that assumes that additional mitigation steps are present to ensure data integrity. At the end of the day, loan quality is inseparable from data quality.
Although it may seem counterintuitive, there remains an element of human intuition in assessing loan quality. Lenders with a high degree of confidence in their staff can give their underwriters leeway to use their better judgment in identifying loans that they do not think are going to perform properly. Once lenders are working with a team that has a strong track record, they become more comfortable in going with straight DU findings, which can include expanded approvals (EA-1) and things of that nature.
Nevertheless, the remaining non-government secondary partners have their own overlays. In the interest of serving those relationships, it is crucial to ensure that the loans sold for them conform to their underwriting overlays.
Therefore, it is important to understand ‘underwriting intuition’ and the power of the human judgment. On the surface, it sounds reactionary to those who think that technology and automation will lead the way to total quality compliance. However, if and when our industry discounts or discards human experience and ‘gut feelings,’ it does itself a disservice.
Look at it this way: Technology is about efficiency. Automation is an incredible game-changing tool. However, just because you get an automated underwriting approval, it does not mean that a specific loan is ultimately going to be approved. The human factor of mortgage lending does not merely entail the validation of data that enters the system. It really is important to evaluate the overall pictureÂ – and, at this time, that's something only well-qualified humans can do.
There remain plenty of instances in which, even with an exceptional level of loan data integrity that has been run through an AUS and gotten an approval, it does not make sense to make a particular loan. There are times when loans that may fit in the stencil of automated underwriting are just destined to perform badly. There can be an X factor that indicates an unlikely probability of that loan performing the way that is expected.Â
So, the question remains: Who is going to determine if those loans are inadequate? That is not just with AUS loans; it includes loans that meet the criteria of overlays in the secondary market as well.
In short, the good judgment of trusted underwriters might trump automated findings even if the loan passes all of the overlays. Some lenders will institutionalize the primacy of underwriters' judgment as a best practice.Â
Prime steak or pink slime?
Here's an appealing and worthwhile analogy. Let's say you're planning a steak dinner for your closest friends. How do you ensure an unqualified thumbs-up from your guests? The fact is, you have to start with a good steak – and you certainly would not want to serve meat containing the ‘pink slime’ of recent fast-food industry notoriety.
In the lending industry, the ‘good steak’ criterion is having experienced, high-quality, reputable partners. In the case of wholesale mortgage banking, the most important partners are mortgage brokers. Fortunately, our industry naturally shed its dubious cuts of beef in the process of navigating regulatory changes and as a by-product of the prolonged economic downturn. By and large, the people that remain in this industry today are true mortgage professionals.Â
The key ingredient to succeeding – not only in the wholesale platform, but from any mortgage lending platform whatsoever – is dealing exclusively with good-quality partners that possess the kind of integrity that will yield the finished product that is required. However, there are best practices specific to each lending model.Â
For example, with the wholesale model, broker partner due diligence is paramount. The vetting process must apply to every broker application and should be repeated without exception when renewals arise.
Broker ‘vetting’ means being certain that brokers have maintained their good standing in the industry. Thriving as a wholesale mortgage banker is challenging enough without taking a black eye from a disreputable broker. Routine dispassionate due diligence not only protects wholesale lenders from the bad players, but also motivates the good players not to stray.Â Â
Keeping investors happy
There are three primary criteria that should be considered when evaluating a mortgage loan: the borrower's ability to repay, which takes into account the income-to-debt ratio; the borrower's willingness to pay, which is determined by credit history; and the collateral value, which is the property appraisal.Â
Now more than ever, in a limited investor environment, lenders of every type must evaluate the probability of all of those factors in a going-forward market. The good news is that if those three bases have been covered in a mortgage loan and evaluated through the lens of likely loan performance, the lender is in a good position.
The one thing that can't be underwritten against is future job loss or other future borrower adversity. A crystal ball would be useful. Then, zero defect lending would be possible.
However, lenders that can achieve right at 1% defaults and less than 3% deficiencies are doing something right. The winning formula is worth repeating: maintain very high quality in loan production and nurture good relationships with the best partners.Â
Remember, many Bank of America personnel had very solid relationships with many lenders and will take those to new opportunities. As industry veterans know, relationships transcend environment. PennyMac is a great example, having brought on more than a few Bank of America people. It makes sense for wholesale mortgage bankers to pick up those relationships where they left off and grow where planted now.
Mark Greco is president of 360 Mortgage Group, an Austin, Texas-based wholesale lender. He can be reached at (866) 418-2997.