The Skies Ahead

 

“It’s an interesting and dynamic time in the industry, for a whole host of reasons,” said Brian O’Reilly, President and Managing Director of The Collingwood Group. “You have market volatility to the likes of which you haven’t seen in some time. Refinances have largely gone away. The distressed-servicing market is substantially smaller than what it was only a few short years ago. The business is in a period of real change.” Many Americans are also facing significant economic pressure as consumer debt levels continue to climb alongside interest rates. There is good news in the mix, however. “The silver lining for millions of Americans is that their homes continue to be a source of wealth
that can help them strengthen their balance sheets,” said Mike Rawls, EVP of Servicing, Mr. Cooper. “However, we need to help homeowners become smarter about managing their balance sheet to avoid a repeat of the last down cycle.”

Echoing the topic of DS News’ August cover story, “The Big Short,” Tendayi Kapfidze, Chief Economist, Lending Tree, said that 2018 was largely defined by the twin factors of decreasing affordability and insufficient housing inventory. Will that remain the case in 2019? “Affordability will remain a challenge as rates are likely to rise further and prices register more modest increases,” Kapfidze said. “Inventory has been improving, in part because affordability is weakening demand. Delinquencies are unlikely to increase as long as the labor market remains
robust, which we expect to be the case. Low delinquencies will also be supported by home prices, which we expect to continue rising, though at a slower pace.”

In early November, CoreLogic’s Home Price Index Report forecast that home-price growth was projected to slow 4.7 percent by September 2019. CoreLogic’s data also revealed that 40 percent of younger millennials said they wanted to purchase a home, but 73 percent cited affordability as a barrier to entry. Doug Duncan, SVP and Chief Economist,
Fannie Mae, said that there could be some relief ahead in 2019. “One thing that you might notice retrospectively is that 2017 will be recognized as the year at which the pace of price appreciation in housing peaked,” Duncan said.

TAXES AND TARIFFS, LEGISLATION, AND REGULATION

The Trump administration passed its $1.4 trillion tax-reform bill in the final days of 2017. While true perspective on the long-term impact of that bill is likely still months or years down the line, it nevertheless contained several
provisions that are already touching some corners of the market, including limits on property-tax deductions and tax-break stays for homesellers. “The changes to federal tax law haven’t resulted in a middle-class wave of homebuying activity,” said Rick Sharga, EVP, Carrington.

Mortgage Holdings, LLC. “Anecdotally, it appears that the tax reform may have slowed down activity at the $1 million-plus level in high-cost/high-tax states. However, it’s hard to say exactly how much of the slowdown is due to the tax-law changes versus the lack of inventory and escalating prices and interest rates.”

Kapfidze said that the clearest 2018 impact from the tax bill was with regard to the increase in interest rates and the sharp contraction in refinance originations. “The higher rates also lower affordability and thus demand, leading to the slowdown in home sales and loss in momentum in home prices,” Kapfidze said. “The bill increases the profitability on the bottom line but its negative effects on industry revenues are much greater, and the bill, in sum, has been detrimental in its first year.”

The past year also brought the word “tariff” back into the mainstream in a way it hadn’t been for some time, with President Trump implementing trade tariffs—or threatening to do so—against numerous countries. While tariff saber-rattling continues between the U.S. and countries such as China, some of the already imposed tariffs have impacted housing to one degree or another.

Kevin Brungardt, CEO, RoundPoint Mortgage Servicing Corporation, called the September tariffs “a double whammy on homebuilders” coming on the heels of earlier tariffs imposed on Canadian lumber.

“The tariffs on raw goods act as a tax on both the homebuilder and homebuyer and that has the impact of further driving up home prices and discouraging builders from pursuing entry-level, affordable projects.”

Brungardt said that, barring any change in policy, these issues should only be exacerbated in 2019, “when the Chinese tariffs (which the National Association of Homebuilders estimate includes at least $10 billion worth of housing related goods) increase from 20 percent to 25 percent.”

Brungardt further points out that the industry doesn’t just have to worry about the immediate impact of the tariffs but also the potential blowback or retaliation from affected nations. He warned that a trade war could create “further instability at a time when mortgage volumes are down and companies are already facing a challenging road ahead in 2019.”

Assuming trade tensions do escalate in 2019, Brungardt said to expect an uptick in mergers and acquisitions activity as companies see margins shrink.

In May 2018, President Trump signed the Economic Growth, Regulatory Relief, and Consumer Protection Act into law, with the bill designed to evolve and streamline regulations put in place by the 2010 Dodd-Frank Act. At the time, Sen. Mike Crapo (R-Idaho), Chairman of the Senate Banking Committee, said in a statement, “This step toward rightsizing regulation will allow local banks and credit unions to focus more on lending, in turn propelling economic growth and creating  jobs on Main Street and in our communities.”

One of the primary changes was increasing the threshold for enhanced regulatory standards from $50 billion to $250 billion, a change designed to exempt some smaller and mid-sized banks from regulations that would still apply to the larger banking entities. The affected regulations pertain to capital and liquidity rules, risk-management standards, and stress-testing requirements, among other things. Unsurprisingly, there was a lot in the bill, but as with the tax bill, some elements of its larger impact on the industry will need to be evaluated from further down the road.

During an interview earlier this year, Pam Perdue, EVP, Chief Regulatory Officer, Continuity, told DS News, “There are still many unanswered questions about how these rollbacks will work in practice.” “People have to modify their lending systems. They’ve got to modify the compliance-management systems inside their organizations. Whether those are manually done or done with technology, there’s a lot of work to do.”

“If you throw a stone into a pond, the ripples don’t occur across the entire pond immediately— they move over time,” O’Reilly said. “That’s what’s happening in the regulatory arena. You have a change in mindset in the context of regulatory enforcement burdens, where the sentiment of the federal government seems to be less aggressive than has been the case under the previous administration. However, that is not translating yet into lesser regulatory costs.”

“The law’s 50-odd mortgage-related provisions are a significant challenge for compliance teams to adjust to,” said RoundPoint’s Brungardt, “and some estimates show that average compliance costs nearly doubled between Q1 2018 and Q2 2018. We’ve seen some relief in Q3, and as companies adjust to the new reality, we hope to see some lasting improvement in the regulatory space, which will improve affordability.”

INNOVATION AND PREPARATION

Several of the experts DS News spoke to suggested that this period of relative calm and stability is a perfect time for companies to innovate and prepare for any economic downturns that may eventually arrive.

“Over the last few years, we’ve started to see more and more technologies introduced for home-loan originations, but innovation on the servicing side is still lacking,” Rawls said. He told DS News that servicers should work to ensure a better customer experience throughout every step of the homeownership journey.

“Homeowners can benefit from more selfservice options and greater education to provide them with the information they need when they want it,” Rawls continued. “For our industry to be successful, we need to meet customers where they want to be met, whether it’s on the web or their mobile device, over the phone, or even face-toface through a web call.”

“The biggest changes occurring in the mortgage industry are taking place in the technology space, with scores of new startups and entrepreneurs attacking many long-standing challenges,” Brungardt said. That being the case, what will the industry look like a decade down the road, and how should companies be working to build and prepare for that future now?

“The customer will be in the driver’s seat in a way we’ve never been before,” Brungardt said. “This will mean more transparent access to every step of the mortgage process and a clear understanding of the timeline from application to close.”

Brungardt anticipates this will mean a significant decrease in how long it takes to originate a loan, possibly shrinking the timeline from weeks or months to days or even hours. Brungardt predicts that the servicing side will also see dramatic improvements and optimizations thanks to advanced analytics and data to better anticipate and assist troubled borrowers in avoiding default or foreclosure.

“Lenders/servicers need to be investing in technology now,” Brungardt said, “even though budgets are tight, to ensure they are ready for the next upswing in the market cycle.”

O’Reilly spotlights the GSEs, Fannie Mae and Freddie Mac, as leading examples of how to approach innovation in this era. “The GSEs are doing a great job at increasing their focus on developing tools and solutions that will help improve the customer experience and mitigate risks.”

O’Reilly, who served as Director, Automated Underwriting Product and Risk Management Solutions at Fannie Mae from 2002–2007, said that the culture at the GSEs had changed significantly since that time, especially when it comes to their approach to innovation.

“The GSEs during that period were criticized—and to some degree, rightly so—for what has been characterized as a ‘take-it-or-leave-it’ approach to innovation,” O’Reilly said. “They would deliver a solution to the marketplace, but there was very little collaboration with the industry during the process of the development of that innovation.”

O’Reilly says that the GSEs’ mindset has shifted significantly in recent years. “Both Fannie and Freddie are engaged in a strongly collaborative environment, and you’re seeing the benefits of that. When we talk to our clients—both large banks and nonbanks—they tell us it’s night and day in terms of the level of collaboration and this notion of test and learn and fail quickly. Fannie and Freddie are working to undertake large initiatives in bite-size chunks,” he said.

That, O’Reilly said, is a lesson every servicer can take to heart and put into action. “As the rules of the road have become more well defined, we can start investing more in upgrades to the customer experience,” Rawls said. “The mortgage process can be complicated and intimidating, and now is the time to think of new ways to approach customer pain points and give them better tools, technology, and products for a more seamless, simpler experience.”

GETTING YOUR BEARINGS FOR 2019

A session conducted during the National Association of Realtors’ 2018 Realtors Conference & Expo suggested that the five most critical issues facing the industry in 2019 included: 1) interest rates and the economy, 2) politics and political uncertainty, 3) housing affordability, 4) generational change/ demographics, and 5) e-commerce and logistics.

“Mortgage is cyclical,” said Beth Northrop-Day, VP and Assistant General Counsel, US Bank. “We’re in a phase right now where companies are still originating, homebuying is occurring, and people are successfully paying their mortgages—all fantastic things. If I were to hazard a guess, I suspect that by mid to late 2019, or perhaps early 2020, we’ll start to see some changes. As an industry, we’ve made so many incredible changes—we are proactive and are working hand-in-hand with borrowers, investors, and regulators.”

Looking back at the industry’s past decade of crisis and recovery, Kim Greaves, EVP, Citizens Bank, told DS News, that most of the “bad players” who precipitated that crises are no longer in the mix, and the industry as a whole is much better prepared for any future downturns than they were before the last one. “However, we will never take our eye off collections, loss mitigation, and default,” Greaves said. ”That must always remain a strong core competency.”

Scott Brinkley, CEO, a360, Inc., said, “Interest rates are rising, and consumer debts are at an all-time high. On the other side of the coin, the economy overall is very healthy. Employment is low. Home-price values are appreciating year-over-year. We have some conflicting data points, but we think that 2018 is going to be a bottoming year for delinquencies.”

If delinquencies do take an upward turn in 2019, however, what would that look like assuming there is no larger precipitating event such as another housing bubble or financial crisis?

“We don’t anticipate anything broad-based,” Brinkley said. “It will all be tied to some major microeconomic event like a recession. Unless that happens, you will not see any material uptake in volume, but you will see a natural increase in delinquencies because the housing market is growing.”

Sharga said that “the consensus among most economists is that the U.S. is likely to enter a mild recession in late 2019 or early 2020. If that’s the case, we’d be likely to see an increase in delinquency rates about six months after the recession starts, and foreclosure activity nine to 12 months later.”

Even though he doesn’t see a recession in the near future, Fannie Mae’s Doug Duncan suggests an economic slowdown is coming.

“We expect economic growth to slow in 2019, and we expect that the Fed will tighten at least a couple of times during 2019,” Duncan said. “Interest rates are unlikely to fall but, depending on the pace to which the economy slows, the Fed may or may not achieve its current dot plot, which suggests four increases next year.”

Duncan added that Fannie Mae is forecasting only two interest-rate hikes in 2019, owing to an anticipated economic slowdown.

The results of the midterm elections will also help shape the industry’s path going forward, but O’Reilly cautioned that even if Republicans are able to continue advancing an agenda that focuses
on streamlining and scaling back regulations, the industry might still encounter unexpected complications—a case of “be careful what you wish for.”

If the federal government continues to scale back on the regulatory front but the states begin to move in the opposite direction, O’Reilly warned that “instead of one regulator with a heavy hand, you could have many, all applying rules in different ways, which would then cause risk-management and compliance costs to skyrocket.”

As for where home prices are headed in 2019, Duncan says that you can already see some of the trendlines forming. “In every market, the high-end component has seen increased inventory, longer days on the market for existing homes, and slowdowns in prices. In some of those markets, you may see declines in prices if the rate rises increase, and in some cases, because of the high cost of housing, some businesses are moving jobs out of those markets.”

Duncan added that some of these markets are also beginning to feel the bite of limitations on the deductibility of state and local taxes. In some markets, this could lead to price declines.

On the lower end of those markets, however, demand and price appreciation remain strong, so average price appreciation across all the markets is expected to remain positive nationally for the next few years.

“Then, depending on what happens with the economic activity and the Fed tightening, that pace of price appreciation may go negative in 2021 or 2022,” Duncan said. “However, there’s a lot of things that could happen between now and then.”

“The slowdown in housing, and particularly home prices, is the best thing that could have happened, and hopefully it continues in 2019,” Kapfidze said. “When we look at previous housing cycles, continued acceleration in home sales and prices would have to come at the cost of increasing leverage—this is how we got in trouble before.”

“For 2019, servicers should continue to refine their organizations, controls, cost structures, and management and staff structures,” Greaves said. “We believe the trend of consolidation will continue, with some smaller companies going out of business, more servicing on the market, and real opportunities for the players that are positioned correctly. The companies that will benefit will be the ones that have their houses in order.”