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In the year 2002.

Ten short years from now, mortgage delivery systems will be well-oiled, information-age machines that put today's inefficient origination practices to shame. Consumers and lenders will be the winners, as technology brings savings and efficiencies to production operations and better-informed choices to borrowers.

Two major forces are driving changes in home loan delivery systems--computer technology and competitive markets. Technology determines what is possible and economically feasible in delivery systems. Increasingly, the answer is "anything."

Indeed, the power of technology is growing so rapidly that the gap between existing systems, and the superior systems that are feasible using the best existing technology, is widening.

Competitive markets dictate that better technology--technology that provides better service at the same cost, or the same service at lower cost--will be adopted. The major uncertainty is the pace of change that the market will dictate.

Of course, there are the usual wild cards that can cross up forecasters, the most important of which is government. Our vision of the future is not based on anything government must do, but it could be derailed by something we haven't foreseen that government might do. Yet, at this juncture, it appears that government will exert no more than a marginal influence in the changes that take place over the next decade.

The purpose of this article is to provide some perspectives for those making strategic decisions about delivery systems. The first section sketches some important features that the systems of the future will contain. These include:

* Information transmission that is error-free, rapid and totally complete;

* Complete loan pricing and underwriting;

* Flexible status reporting;

* Flexible mortgage program design capacity;

* Remote counseling of borrowers.

The second section discusses two important new systems that, in our view, will emerge:

* Computerized loan origination systems (CLOs) having open access;

* A mortgage information clearinghouse.

The third section considers the implications of these developments for existing delivery system mechanisms. These include depository branches, commissioned loan officers, wholesaler-correspondent systems, Realtor single-lender networks and telemarketing.

New features

The critical information flows in mortgage delivery systems are those from information providers to information users, and back again. An information provider is a lender who disseminates information on the loan prices and other terms at which it is prepared to accept loans. An information user is a loan officer, branch, correspondent or Realtor who quotes terms to borrowers. The information that must be transferred to users consists of all the terms and conditions of all loan programs, while the return flow consists of individual applications, registrations and other documents.

Today, there are very few information users at the same site as their information providers. While this separation increases delivery efficiency in many ways, it also imposes high communications costs, as well as delays, errors and incompleteness (which arise, in part, from attempts to keep costs down). These inefficiencies are associated with the use of mail and other physical delivery couriers, fax and telephone, as opposed to electronic (computer-to-computer) communication.

In 10 years, virtually all the communications will be electronic. The following are some of the characteristics of these electronic communications systems:

* Loan program information sent to users is entered manually only once, by the provider, and is in usable form when received by the user.

* Loan program information is complete as disseminated.

* Prices on the user's computer are always current.

* Quality control on applications and registrations is based on checking for consistency and completeness at the user's end, rather than after the documents are received by processing.

* No mistakes are added at the receiving end because the information is transferred electronically to the provider's processing system.

* 1003s and other documents requesting information from third parties are produced at the user's site for immediate borrower signature.

* Orders for appraisal requests and credit reports are sent out automatically from the user's site, rather than from the information provider's site.

All systems providing error-free, rapid and complete information transfers must be integrated, (i.e., all components of the system must communicate with each other electronically.) Today, many lenders believe they face an uncomfortable choice between high-quality components that can't talk to each other, and integrated systems with inferior components. In fact, there is a way out of this dilemma.

Complete loan pricing and underwriting

Lenders have information (even though it is imprecise) about how each of a wide variety of factors should be related to prices or underwriting requirements. If prices and underwriting requirements are defined in a way that reflects all these factors, it is "complete." Complete pricing is now technologically possible and will soon be economically imperative, in the sense that lenders who don't do it will be at a serious disadvantage.

Lenders who don't price completely are obliged to adopt some combination of "sloppy" pricing or exclusionary pricing. Sloppy pricing involves setting the same rates, terms and conditions for loans that should carry different rates, terms and conditions. Exclusionary pricing means not accepting broad categories of loans, (for example, condo loans, investor loans or condo-investor loans.)

Complete pricing will be critical to a firm's ability to compete. In a market where other lenders price completely, the lenders who price sloppily will face adverse selection; they will get a large volume of loans that are priced too low and only a small volume of those priced too high. The lender practicing exclusionary lending foregoes income that might be earned with complete pricing.

Complete pricing requires solving two problems. At the data-input end, it must be possible to define every relevant price or underwriting requirement without having to enter millions of pieces of information manually every day. This is a tall order. For example, a lender who wants to adjust prices for four LTV categories, four loan-size categories, four rate-lock periods, eight rate-point combinations, seventy geographical areas and twenty special borrower/property characteristics (investor, condo and so forth) must post more than 716,000 prices. Underwriting requirements can be even more complex.

The second problem arises at the user end. It must be possible to get all these data out of the system without overwhelming the user with complexity, creating major delays or generating mistakes. The only feasible way to do this is to have the system find the right terms for a particular customer, based on information about the customer entered by the user.

Flexible status reporting systems

The systems of the future will provide access to information, on the status of loans in process, directly to loan officers and Realtors at the point of sale, as well as to pipeline managers in the back office. Further, these systems will work in a multi-lender, as well as single-lender environment. With the emerging new type of CLO, for example, a Realtor will be able to obtain status reports on all loans in process, in a uniform format, even though the individual lenders on the system use different loan processing systems.

Status reporting will also include the extensive analytical capacity made possible by state-of-the-art data base systems. This will open the way to applications of great potential value, such as:

* Cross-selling of other services based on information contained in the data base of loan applications (1003s).

* Analysis of the relationships between individual loan characteristics in the data base of loans closed, to later experience covering delinquency, default, prepayment, and so forth, as revealed in the servicing file.

* Analysis of the reasons for differing loan application acceptance rates among different racial groups.

Flexible mortgage design capacity

In general, the capacity of lenders to deliver mortgages having the features their customers want, declines as their mortgage delivery systems become increasingly integrated. (A fully integrated system is one in which no single piece of information has to be keyed in more than once.) The larger the number of system components that must communicate with each other, the greater the pressure on the system builder to simplify the communications process by "hard wiring" the mortgage design component. The resulting lack of flexibility is a potential cost of an integrated system. Even though a hard-wired system can handle today's products, new designs may require substantial and costly modifications throughout all the components of the system.

To be sure, flexible mortgage design capacity can be built into the system from the outset, if the designers are prepared to make the steep, up-front investment required. Unfortunately, most designers are under pressure to "hit the street" as soon as possible, so they design the system for the current generation of loan programs and cross their fingers. Yet, the experience of the past 15 years suggests strongly that the next generation of products will differ significantly from those of today. Clearly, system designers who are looking to the year 2002 must bite the bullet in creating a capacity to deliver any type of product.

Remote counseling of borrowers

Remote counseling occurs when the loan applicant and the loan counselor are at different sites, communicating by telephone, with the counselor controlling a terminal and a printer at the applicant's site. Remote counseling will come into use because it is economically feasible with current technology and it provides a solution to two related problems.

The first problem is the high cost of training counselors at low-density sales outlets. There may be no one in a Realtor office or a depository branch, for example, with the time or inclination to learn how to use point-of-sale software, in counseling applicants, taking the application and generating documents. In such a case, the remote counselor is the solution. A group of 10 counselors working in a single office employing a local area network, for example, might service 100 to 200 Realtor offices or depository branches.

The second problem is the emerging demand for higher quality mortgage counseling than is generally available today. Counseling has long been the weak link of the residential mortgage lending industry in the U.S. Borrowers often make bad decisions because the complexity of the product is very high, relative to their knowledge and sophistication (most are in the market only once or twice in a lifetime), and lenders seldom help them.

Lenders have competed for market share in many ways, but they have not, as yet, competed in the quality of information and counseling service provided. In an unsophisticated market, this would have been a losing strategy for any lender adopting it. No single lender can afford to invest in public education.

However, the average level of sophistication of borrowers has been slowly creeping upward. Information on rates and terms is now available in many newspapers and magazines, more detailed data are obtainable from local mortgage reporting services, articles on mortgage-related topics appear frequently in the media and counseling services have sprouted up around the country. The point will soon be reached where quality mortgage counseling will be a required service and lenders not providing it will be at a competitive disadvantage.

Mortgage counselors will be well-trained professionals who do nothing else. They will have direct access to complete and current mortgage program information provided by lenders and to sophisticated point-of-sale software that will allow them immediately to be responsive to any question an applicant might ask.

In addition to employees of lending firms, the market probably will spawn a new type of independent counselor who has access to complete and current information on the mortgage programs of a large number of lenders. The demand for such service will come largely from Realtors who provide their customers with access to loan programs of many lenders on terminals in their office, but prefer not to do the counseling. In addition to offering remote counseling, these Realtor-based programs will differ from past and existing "CLOs" in other respects as well.

The new type of CLO

Computerized, multi-lender systems for originating loans out of Realtor offices, known as "CLOs," are as attractive in principle, as they have been disappointing in practice. What could be more logical than leading a homebuyer from the desk where the purchase transaction has been completed, to an adjoining desk where the loan required to finance it can be negotiated? Yet, the performance of past and present CLOs has ranged from abysmal to mediocre. It is fair to say that the promise of CLOs has yet to be realized.

As we see it, the new type of CLO will be light years beyond the flawed approaches tried to date. First, while counseling and loan selection capacity in the Realtor's office will be powerful and sophisticated, it will require no more competency and input by the Realtor than the Realtor has available. Realtors who want to operate as mortgage brokers will be able to do all the counseling, take the application, and so forth; Realtors who want only to offer the service but otherwise avoid involvement will be able to delegate the entire function to a remote counselor; and there will be many possibilities in-between.

Second, the new type of CLO will offer participation to any Realtor or lender. Existing and past CLOs, by contrast, have offered services only to selected Realtor firms. In addition, because these systems have required that every participating lender be represented on every Realtor terminal, they could accommodate only a limited number of lenders before menu congestion (an excessive number of listings) set in.

Third, the new type of CLO will provide freedom of choice to Realtors to select the specific lenders they want on their terminals, subject to the lender's approval. Likewise, the lenders would select the Realtors on whose terminals they wanted to be listed, subject to the Realtor's approval. This initiative can be extended down to the office level, (i.e., different Realtor offices of the same realty firm may have different lenders on their terminals.) Hence, existing Realtor-lender relationships will be solidified, rather than supplanted.

Fourth, the new type of CLO will allow the individual lenders to offer any type of mortgages, having any features they wish. This allows mortgage offerings to be geared to regional preferences and allows prompt adoption of any new designs that become popular.

Fifth, the new CLO will enjoy all the benefits of error-free, rapid and complete information transmission noted earlier, including single data entry, complete and current loan program information, immediate document distribution and service orders from the Realtor office and continual access to application status updates at the Realtor office. In addition, applications and registrations taken at the realty firm will be transferred electronically to the individual lender's own processing system, whatever and wherever that might be.

For a CLO with these characteristics to be feasible, however, it is necessary to develop an information switch or clearinghouse.

Developing an information clearinghouse

The core of the mortgage delivery system of the future, as we envision it, will be a mortgage information clearinghouse--a state of-the-art method of distributing and using mortgage information that has multi-lender (as well as single-lender) capability and accommodates remote counseling.

The clearinghouse is a computer network accessed by data providers and data users. Data providers are lenders who enter the terms on which they will accept loans on the clearinghouse computer. Data users are loan officers, correspondents and Realtors who offer loans to borrowers based on information on the mortgage programs offered by lenders that is obtained through the clearinghouse. The clearinghouse will also route registrations and applications back to lenders' processing systems.

The mortgage clearinghouse should be distinguished from an electronic mortgage bulletin board, which does not provide a user with the capacity to manipulate information sent by a provider. For example, if a provider using a bulletin board offers a 15-year graduated payment mortgage (GPM) at 8 percent, with the payment rising by 5 percent a year for 5 years, the user would retrieve this information in textual form, similar to the way it is conveyed in this sentence. To convert it into useful information, the user must then key it into a system of his or her own.

With a clearinghouse, by contrast, the user receiving information about the same GPM could obtain a complete amortization schedule, compare the payment or interest cost schedule with that on other mortgages, qualify a borrower and so on. Of course, this requires that the clearinghouse software be integrated both with the software used to load information by providers, and the software used to manipulate information by users.

The clearinghouse sharply reduces the number of messages required to transfer a given quantity of information. For example, suppose 1,000 Realtor each have 10 lenders represented on their terminals. If each lender communicates with each Realtor, 10,000 messages are needed, but if the 10 lenders send a single message to the clearinghouse and each Realtor collects information from 10 lenders in a single message, only 1,010 messages are needed.

These visions of what lies ahead are not pie-in-the-sky. Every one of them, including the clearinghouse, exists at this writing.

Impacts on depository branch systems

Branch offices of depositories are the dominant home loan delivery vehicle everywhere but in the U.S., where they have been largely supplanted by commissioned loan officers. Hence, the cost efficiencies that result from sharing branch facilities are largely unrealized.

As things now stand, there is little reason for a borrower to go to a depository branch, to get a home mortgage, because the service they receive is usually poor. They may be offered an application and/or referral to another office or they may be asked to wait, while a call is made to a loan officer. To increase loan traffic at branches, potential borrowers must be given more incentives to bring their mortgage business to a branch.

Remote terminal counselling will provide such a reason. The branch manager or designate will download prices (through the clearinghouse or otherwise) onto a computer at the branch and log in a customer. The terminal will then be turned over to a remote counselor, who will counsel the customer, print out the necessary documents and take the application. In this way, the branch can be transformed from an inferior to a superior delivery mechanism.

Commissioned loan officers

Commissioned loan officers are employees who are compensated solely or largely by a commission based on loan volume, and who, therefore, operate more or less as independent agents. Commissioned loan officers are a costly method of marketing mortgages--typically, they get about 50 basis points per loan, which is a lot of money to generate an application.

The high cost is attributable mainly to low productivity. Loan officers spend a major part of their time cultivating contacts with Realtors and other referral sources. They also must travel back and forth between their field contacts and their office, returning periodically to get product and loan status information and take applications.

In addition, the overall quality of service loan officers provide generally could be improved upon. They are sales persons who usually have varying degrees of commitment to the firms they represent, they are costly to train because turnover is usually high, and their income is related more to their sales skills than to the quality of service they provide. Indeed, many of them concentrate on one or a few products because they don't understand the others.

Technology, however, makes possible a substantial increase in the productivity of the commissioned loan officer system. If the loan officer has a laptop computer plus a modem in his or her briefcase, and if the lender has its own internal communications system or access to an external one, productivity could increase markedly. Time-consuming trips back and forth to the office could be avoided and calls on potential clients could be targeted rather than hit or miss.

If the higher level of training required of loan officers using the new technology is accompanied by a higher level of professionalism in the quality of customer service offered, the delivery system might hold its own against rivals. In determining what the mortgage delivery system of the future looks like, much will depend on how customers relate to agents of a single lender--who may have a recognizable name--versus those representing multiple lenders.

Wholesaler-correspondent systems will expand

Wholesaler-correspondent systems probably will continue to grow in importance because of their role in facilitating an efficient division of functions between large lenders, with a national or regional perspective, and smaller lenders with a local perspective. Wholesalers concentrate on those functions that involve economies of scale, including loan processing, pipeline management and accessing secondary markets, while at the same time enjoying maximum flexibility in entering and exiting local markets.

Correspondents (including brokers) concentrate on marketing where scale economies are negligible and where they can exploit their local knowledge and business contacts to best advantage. By dealing with a number of wholesalers, correspondents can assure themselves of a complete product line and competitive prices at all times.

However, existing wholesaler-correspondent systems have some marked weaknesses as well:

* The formats used to provide information to correspondents, both in the technical manual and daily price sheets, vary from wholesaler to wholesaler. This creates numerous problems for correspondents in retrieving technical information about particular products and comparing the offerings of different wholesalers.

* The information received from wholesalers must be further processed by the correspondent (by calculator or computer) in order to generate information required by customers, such as amortization schedules, disclosure documents and so forth. The task of keying in data from different wholesalers who use different data formats, is time-consuming and error-prone.

* Product information delivered to correspondents is complex and incomplete, with the result that correspondents sometimes commit to make loans at prices that no longer apply, or that do not conform in other respects to wholesaler requirements. Such loans are rejected by the wholesaler.

* For this and other reasons, correspondents often register the same loan with more than one wholesaler. This increases the difficulty that wholesalers have in managing their pipelines.

The mortgage clearinghouse described earlier would substantially transform the wholesaler-correspondent system. Correspondents would be able to download information on all mortgage programs from all wholesalers with whom they do business, in a common format ready for use in dealing with borrowers. Because of the common format, confusion about the similarities and differences between mortgages from the same wholesaler, and across mortgages from different wholesalers, would be minimal. Updating by automated telephone call would be easy, fast and accurate. Each loan would be registered electronically, with immediate electronic feedback to verify that the terms were consistent with those the wholesaler had posted.

Wholesalers would be able to reduce and eventually eliminate printed product manuals and rate sheets, and they would receive far fewer calls requesting updates, amplification and clarification. Their capacity to vary mortgage types and terms for different users would be much facilitated. And pipeline control would be enhanced through the receipt of regular reports on multiple registrations.

Existing CLOs will wither

Existing CLOs will wither or die because they all have at least some of the following problems:

* Only large Realtor offices can afford to have a trained person staff the computer terminal.

* Realtors get access to offerings of lenders who pay to be listed, but who are not necessarily the lenders with whom they want to do business.

* Lenders get access to Realtor offices represented on the CLO, that are not necessarily the offices with which they want to do business.

* System economics lead to an excessive number of lenders being listed, with consequent mortgage menu congestion and the "commoditization" of standard products.

* The information delivery system is limited to product descriptions, providing little or no help to borrowers in comparing the costs and benefits of different products.

* The lenders' processing and pricing systems do not "talk" to the CLO.

Because the open CLOs of the future will have none of these problems, the existing CLOs will not be competitive. The same is true of the Realtor single-lender networks, which have been "successful" for the wrong reasons. By making it possible for Realtors to collect fees from borrowers, lenders offering the fees have increased their Realtor referrals. Such programs raise a conflict of interest issue and have generated a flurry of regulatory and legal initiatives designed to prohibit or limit the payment of fees. Where this will all end has yet to be determined.

But such programs are inefficient in any case. Absent the special inducements, Realtors and their clients would prefer multi-lender systems over a single-lender system, or over several single-lender systems that are incompatible. Single-lender networks will die, as the new open, multi-lender, CLOs emerge.

Telemarketing will come into its own

Telemarketing can either be done in such a primitive way that it represents nothing more than an adjunct to a commissioned loan officer system, or it can be sufficiently sophisticated as to constitute a delivery system of its own. And there are many stages in between.

Under the sophisticated version, trained (salaried) loan counselors staff computer terminals at central locations. The computers are on local area networks (LANS) so that counselors can share customer files. The counselors use state-of-the-art software that allows them, after entering basic financial and other data on the people calling in, to provide instant answers to the callers' questions, such as:

* How much can I afford to pay for a house?

* If I buy this house for $150,000, how large a loan can I get?

* How much cash will I need using the FRM (ARM)? How much will I need if I put 20 percent down?

* What are the pros and cons of buying down the rate?

* How high can my payment go on this ARM?
COPYRIGHT 1992 Mortgage Bankers Association of America
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1992 Gale, Cengage Learning. All rights reserved.

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Title Annotation:mortgage delivery systems of the future
Author:Guttentag, Jack; Redstone, Allan
Publication:Mortgage Banking
Article Type:Cover Story
Date:Oct 1, 1992
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