Mortgage Market Slump: Is it Interest Rates or Jobs and Consumer Income?
Over the past week, most of the major banks in the mortgage sector have been issuing guidance to investors regarding the outlook for mortgage lending volumes going forward in 2014. I have been concerned about the transition for the industry from the boom refinancing of existing mortgages at lower rates to a sustained reliance on home purchase mortgages, both for banks and non-bank lenders. The good news is that the mortgage loan refinance boom lasted longer than anyone had expected, the bad news is that boom is over as interest rates rise.
William J. Rodgers, CEO of Atlanta-based SunTrust, said his company’s mortgage applications were down 40% in August and July, according to Housing Wire reports. The bank earlier announced layoffs in their mortgage division. M&T Bank Corp. on Monday told investors that they should brace for a “significant” decline in mortgage-banking volumes this quarter.
Most major banks have been guiding down the expectation for lending volumes over the last year and then pleasantly surprising investors with higher volumes and profits. In the Q2 2013 earnings call for JPMorgan, the bank warned that it could see a 40% drop in lending volumes. But recently, JPM stated that mortgage volumes and related revenue are falling faster than it can cut costs. Mortgage market analyst Rob Chrisman commented:
“Wells Fargo and Chase, regardless of their perceived advantages, both told the industry yesterday that things might become grim in their mortgage divisions. Wells told investors at a conference that it expects mortgage originations to drop nearly 30% in the third quarter to roughly $80 billion, down from $112 billion in the second quarter.”
That is roughly a billion a day in production for Wells, who has already cut 3,000 jobs in the mortgage business since July, approximately 1% of their total workforce. Mortgage-banking income dropped 3% at Wells Fargo and 14% at J.P. Morgan in the second quarter from a year earlier. At Bank of America, which announced 2,100 job cuts on 8/29, the decline was 22% from the year-ago period.
Marianne Lake, J.P. Morgan’s Chief Financial Officer, said refinance applications are down more than 60% from the peak in May 2013 and down 40% from the trend last year. Chase’s share of the purchase market has increased from 7.2% in 2011 to 10.7% as of the first half of 2013.
The Mortgage Bankers Association (“MBA”) reports that applications for U.S. home loans plunged as mortgage rose to their highs for the year. Refinancing activity fell to its lowest point in more than four years. MBA said its seasonally adjusted index of mortgage application activity, which includes both refinancing and home purchase demand, sank 13.5% in the week ending September 6th.
I tend to believe that the decline is not just a result of higher interest rates, but also due to panic buyers over the last year pushing up prices. Lenders are loosening up credit underwriting by funding lower credit scores and targeting other initiatives, but the first time home buyer is not going to be able to help offset the precipitous drop in refinancing volumes at major lenders.
The chart below shows the major bank portfolio categories (total real estate, first lien 1-4s, and HELOCs) and includes 1-4 family mortgages securitized and sold. The only real areas of asset growth for US banks in terms of consumer lines are in autos and credit cards.
Even during the refinancing boom, bank balance sheets have been flat in terms of holding of 1-4 family mortgages. More important, the flow of securitization and sales has been falling during this period. This chart will look much worse next year.
The sharp downward trend in 1-4 family mortgage loans securitized and sold in 2009 is partly a result of the FASB 166 rule change for off-balance sheet funding. But key take away is that the aggregate bank portfolio of 1-4 mortgage loans is essentially flat and slowly trending lower — even as home prices have risen. If you take distressed sales out of the equation, the Case-Shiller 20 city index is up high single digits Year-Over-Year. But the lack of credit growth in the US banking industry is a big concern for the future of the mortgage and real estate industries.
Securitization of 1-4s is running about 1/2 of pre-2009 levels, which averaged around $1.1 trillion per quarter in 2008-2007 vs $600 billion per quarter today. Banks don’t want to show investors a sharp drop in retained portfolio levels, so the variable here is loans securitized and sold. Wells Fargo retained a large chunk of their agency eligible mortgages from late 2012 and early 2013 and were required by the Federal Reserve had to disclose this fact in the SEC filings.
The bottom line is that most economists appear to be overly optimistic of how difficult the next year will be for banks and other participants in the real estate industry. The first time that a major bank reports a serious earning miss, bank regulators are going to come down hard on the industry.