Mortgage
Macro Trends in Mortgage Servicing
Articles by: Richey May, May 15, 2023
As lenders adapt to the latest ups and downs, many are stopping to reconsider their servicing strategy. Do low volume and margins have you questioning what makes more sense: retaining servicing or selling servicing released?
Seth Sprague, CMB, Richey May’s Director of Mortgage Banking Consulting Services (aka, resident servicing expert), weighed in on this and related topics in a recent episode of the Lykken on Lending podcast.
As former chair of the Mortgage Bankers Association’s Certified Mortgage Banker (CMB) Society, Sprague has the holistic perspective on the mortgage ecosystem to help. In fact, both the FHFA and Federal Reserve regularly call on him for his insights.
13 key trends and strategies
So what does Seth Sprague think about the future of servicing? Here’s a recap of his predictions, along with recommendations on how to make the right decisions for your business.
- Customer relationships will come first. Mortgage companies are refocusing on the long-term value of customer relationships. Not only does their origination business benefit. Their cash flow does too. Sprague’s advice: Do look at the long tail. Don’t ignore the long-term value of the customer relationship, especially in terms of potential servicing cash flow.
- Forbearance will rise if property values fall. If property values start to fall, some borrowers will feel the strain more than others and may seek forbearance. And while it may help some borrowers stay current, forbearance can result in lost equity. It also changes cash flows, which hurts the servicer. Sprague’s advice: Get borrowers to walk you through their hardships, so you can get them to the best position to succeed and stay in their home.
- MSR values may feel the pinch. Borrowers who miss payments cost servicers revenue they never earn back. And if the value of the mortgage servicing right (MSR) value declines in the market, lenders pass those higher expenses on to consumers. Sprague’s advice: Again, talk to borrowers. And be sure that if you’re tacking missed payments on the end of the loan, you know who’s going to bear the burden of accrual.
- Servicing analytics will help mitigate risk. Servicing produces cash flows and helps offset origination expenses, but it also presents risks, and as rates rise those risks are likely to increase. Sprague’s advice: Don’t just blanketly retain servicing. Do more analytics around what gets retained and released to mitigate risk.
- A buyer’s market will prevail. Sprague sayswhat’s driving the servicing market is the counterparty strength and deal size. Buyers want consistent sellers in their stable and shy away from one-and-done deals that lead to either less participation or less aggressive bids – and lower MSR values. Sprague’s advice: Stand your ground and look for sellers with established selling practices.
- Cash flows may shrink over time. Lenders saw strong servicing related cash flows from a combination of events in 2022, but loans amortize at different rates. Low coupon loans (such as 3%), will have a greater portion of their payment applied to principle and the servicing cash flows will decline faster. It is important to understand these cash flow implications. Sprague’s advice: Carefully monitor prepayment speeds, delinquencies and natural decay on the loans due to payments.
- Escrow floats may flounder. What’s your escrow value, and are you earning the float you need? While banks have a natural ability to earn full float on deposits, IMBs often depend on warehouse lenders or MSR financing and may not achieve the same cash flow value. Sprague’s advice: Understand your ability to earn float on escrows and how natural decay can affect servicing fee income.
- Escrow advances may spike. Rising property values will cause a shortage in the escrow accounts for most borrowers. That’s cash the servicer has to advance. With smaller increases in property values, we may see rising delinquencies and an upturn in escrow advances. Sprague’s advice: Understand your risk on the cash side of servicing and whether you’re cash positive or negative.
- Closed-end seconds and delinquencies could come in. We may see more closed-end second mortgages versus HELOCs used as a tool to create blended rates for borrowers with lower scores. FHA data shows that FICO scores of 60 and under correlate with double-digit delinquencies, even in an ideal job market. Sprague’s advice: Keep an eye on credit scores and delinquency rates, and keep in mind that even a 1% drop in employment numbers could stress FHA borrowers very quickly.
- Scrutiny on MSRs may grow. Earlier this year, the FHFA directed Fannie Mae and Freddie Mac to look more closely at MSR valuations when managing counterparty risk. While the FHFA is not rewriting MSR accounting rules, they are cracking down on mismatches between the valuations used for accounting purposes and the values achieved when servicing is traded, and that will directly impact equity. Sprague’s advice: Be aware of what’s happening with the FHFA and expect added scrutiny on the equity side of MSRs.
- Repurchase risk could rise. Repurchase risk has been elevated, and IMBs could struggle with fighting those repurchases due to staff reduction in critical areas. Sprague’s advice: Boost your expertise on the origination quality side to help try to fight those repurchases.
- The Fed will face the heat on foreclosure timelines. Mortgage originators can’t control volumes, much less gain on sale. Layer in a servicing business, particularly one with the long timelines and advances of Ginnie Mae loans, and now you have unknowns on both sides. Sprague’s advice: Know your limits in terms of advances and maintain your liquidity.
- Servicers may become too big to fail. The stakes are higher for large servicers that service mortgages in-house. If they fail, they face cash flow and operational problems and potential staff loss and borrower impact. Sprague’s advice: Rates are already climbing. Beware of a potential reprice in MSR values, which can have many effects across the mortgage ecosystem.
Still leaning toward retaining servicing for your business? Good. Want more help defining the right strategy? You know where to find us: info@richeymay.com.