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Myths revisited.


Some conventional wisdom in this business needs to be challenged. Separating myths from reality is critical in the mortgage banking business.

Back in the spring of 1988, in the wake of a fantasy period of runaway production that clearly was unsustainable, I first wrote an article on the myths of mortgage banking in an attempt to anchor the industry in reality. The boom origination period of 1986 through part of 1987 was a fleeting but sweet moment when production literally walked in the door. But savvy management does not plan around brief shining moments when the fates are smiling.

So now I set my pen to paper again to address new myths that have again arisen, albeit in times that are very different than the late 1980s bonanza period.

My first attempt to bring mortgage bankers back to management by reality was called "The Ten Myths of Mortgage Banking." This time around, I decided to write 11 current myths without reference to the earlier article. Only after I set a broad outline in place did I reread the former article. I found that most of the myths were different this time around, and wondered why that was so. Is it because the business is changing so much, or is it because I am changing? Perhaps, some of both.

Today, I find myself putting more emphasis on the efficiencies resulting from technology, with a big spotlight on gathering information that is helpful to management in making decisions. I am less concerned with the perception of bigness - the top line - and more oriented to profits - the bottom line. Cost control these days has become a more consuming effort. On that score, I believe that not only has this industry become more cost-conscious, but that all of American business is focusing on better output per person. I have reaffirmed my unrelenting efforts to actively attack improprieties, and I continue to believe I am on solid ground in saying price is only one piece of the puzzle when it comes to attracting business. I have tried to be more risk averse in marketing and believe the industry is on a similar track.

Now let's approach the process. Here are the 11 myths: * Price is the most important factor in

getting market share. * Increased volume is the major key

to more profitability. * Loan production personnel who produce

low levels of business are a

positive - every little bit counts. * Financial incentives should be

geared to volume achievement. * The Mortgage Bankers Association

of America (MBA) is understood

and appreciated by senior management

of member firms. * Product design should be the same

in all markets. * Budgets are inappropriate for mortgage

bankers. * Fallout ratios vary only slightly with

respect to interest rates. * Quality standards are too costly to

monitor and enforce. * Improprieties will always occur and

there isn't much we can do about it. * Technology is principally beneficial

to the servicing end of the business.

Myth #1: Price is the most important factor in getting market share - While price is a factor in getting market share, it is not the only factor, nor the most important factor. Getting the business involves the integrity of the company and the ability and willingness of a company to live up to its commitments. It involves service - which probably can be distinguished as the most important factor in bringing in business. Product quality and diversity are certainly factors in terms of bringing in business, and then there is the interpersonal relationship between the loan officer and the broker and/or builder in an organization that uses loan officers. There is no doubt that if an organization offers a meaningfully competitive price, it may carve out an opportunity to get some business, but there is no lasting prospect to hold onto that business without the other parts of the puzzle being in place.

Myth #2: Increased volume is the major key to more profitability - It is not unusual to see mortgage executives sitting around a table focusing almost entirely on how to increase volume. Many believe that volume is the route to greater profitability. Often when I ask another mortgage banker how he or she is doing, the answer is: Our volume is "such and such," instead of: We are doing fine, and profits are on an upward trend.

There are obviously two parts to the profitability question. One is revenue and the other is cost. Being top-line-oriented is a risk. Being bottom-line-oriented is a virtue. Controlling costs can produce the same result as increasing revenues. So, sometimes you can do less business and make more money. That's not all bad. However, it is not unreasonable to think you can increase revenue and, with good cost controls, also increase profitability. Together, that can give you the best of all worlds.

Myth #3: Loan production personnel who produce low levels of business are a positive - every little bit counts - I like to be represented by quality people. I believe that those who do not perform at expected levels can produce negative results. They may not be good representatives of the company; they may obtain poorer quality loans; they may cost more than we think because if they are full-time employees, the cost of their benefits must be added and that represents a substantial sum. Finally, an underperforming loan production officer deprives an organization of "opportunity." By that I mean if he or she is assigned to a given territory and is not performing up to expectations, then there is someone else who might handle that territory and perform better. People who do not perform well normally do not feel good about themselves, and it follows that we who employ them are not likely to feel good about them either.

Myth #4: Financial incentives should be primarily geared to volume achievement - For a long time I believed that financial incentives work best when geared completely to achieving volume. I now believe that a growing part of compensation can be related to cost-containment achievements. In our organization, we are developing a plan whereby 80 percent of what a person would be used to earning in a sales management capacity can continue to come from volume. An individual can recoup part or all of that remaining 20 percent by handling costs effectively. The carrot at the end of the stick is that very good cost performance can add another 20 percent to compensation, so under the plan an employee could earn 120 percent of what he or she used to earn.

Myth #5: The MBA is understood and appreciated by senior management of member firms - The MBA is a spectacular organization. Over the years I have seen it perform superbly on Capitol Hill in lobbying efforts. The best lobbyists come from the rank and file of the membership. While the staff has much knowledge, the congressional staff and members of Congress want to hear presentations from those on the firing line. I have found that the staffs of many of our member firms do not understand and appreciate the value of MBA. With so many of our companies that are bank-owned, or owned by other financial service companies, or even owned by industrial companies, there seems to be less sensitivity to our trade organization. As companies are acquired, there are instances where management has been replaced by those who have not "grown up" in the mortgage banking business. These newer entrants need to recognize the quality and influence of MBA. Based on the size of our trade organization and the budget allocated to lobbying, I believe we get more bang for the buck than any other trade organization on Capitol Hill. MBA also disseminates information on a timely basis, offers educational programs and designs quality seminars.

Myth #6: Product design should be the same in all markets - If a basketball coach recruits tall players one year and shorter players the next, or if the coach recruits some speedy players and some not-so-speedy players, it makes sense that the coach should take advantage of the team's strengths. You cannot use the same strategy when you have players with different capabilities - the system has to adapt to its players.

The same is true for product design. No one can say he or she will only make fixed-rate mortgages because there are times when adjustable-rate mortgages make more sense. When interest rates are high, it is difficult to qualify a borrower for a fixed-rate mortgage, but it may be easier and more appropriate to qualify that person for an adjustable-rate mortgage. Also, when the spread between short-term and long-term rates is wide, there is a bigger argument for the value of adjustable-rate mortgages. I believe the American public has a love affair with fixed-rate mortgages because they are more understandable and more reliable in terms of budgeting; on the other hand, borrowers have infatuations with the adjustable-rate mortgage, and it falls in and out of favor depending on the interest rate environment. Therefore, it behooves lenders to "go with the flow" and design products accordingly. By the way, I do not believe in a plethora of products. A few, well-designed, quality products are the centerpiece for an effective program. There was a time when many of us thought that it was creative to have a never-ending number of products and then we found that we closed them wrong and probably didn't explain them right. Also, it is critical that we have our representatives educated on what our products are and are not.

Myth #7: Budgets are inappropriate for mortgage bankers - Budgets are not inappropriate for mortgage bankers. They are, in fact, indispensable. It is simplistic to say that budgeting is too difficult because we do not know what our volume of activity will be. We are not different from other businesses that have the same degree of uncertainty. A budget is our best guess on what will develop, and while certain expenses are fixed, others are variable. There must be a standard against which our business is measured. Our own company is spending an increasing amount of time on our budget function. All managers involved in the process believe that the budget concept has enabled them to understand their responsibilities better. While our company analyzes operating results against the budget, month by month, we spend more time at quarterly periods when some of the ups and downs get evened out.

Myth #8: Fallout ratios vary only slightly with respect to interest rate movements - Anyone who has been in the business since the mid-1980s knows how fallout ratios can vary. At our company, we expect to close between 70 percent and 75 percent of our production; therefore, our fallout ratio is between 25 percent and 30 percent. When interest rates were falling in 1986, our fallout ratio was significantly higher than that. When we ran into the volatility of 1987, the spike in interest rates was so dramatic that it changed our fallout ratios to where only 8 percent failed to close. Closing up to 92 percent of our loans meant that we had more inventory than we expected, and selling that inventory at a time of increasing yields was costly - very costly.

We should understand that fallout ratios vary with sharp changes in interest movements. We should further understand that the fallout ratios will be different on wholesale versus retail, and further still, we must realize that fallout ratios will be significantly different on refinanced loans where there is no compelling reason to close.

Myth #9: Quality standards are too costly to monitor and enforce - If a company closes 98 percent of its loans properly that sounds like a pretty good percentage, but for a mortgage banker who expects to sell everything produced, holding 2 percent of unsalable loans may be a problem. Two percent of $100 million is $2 million; 2 percent of $500 million is $10 million; and 2 percent of $1 billion is $20 million...the mathematics need not be continued to illustrate the problem.

Individual performance should be monitored and audited. Not every loan can be made; some are just misfits. Pressure exerted to get a non-qualifying type loan approved must be resisted. Approving such a loan may seem to have a short-term benefit, but may instead have long-term negative implications.

Myth #10: Improprieties will always occur, and there isn't much we can do about it - It is incumbent on all of us to avoid improprieties. In any group of 100 people there is always the prospect that someone will tinker with propriety. The first step in avoiding impropriety is to make sure that everyone knows what is expected of them.

Second, it is important to point out the situations where impropriety is most likely to occur so employees are "on guard." There must be ongoing and repetitive discussion about the correct way to do things and the incorrect way to do things, the latter being unacceptable. The employee should believe that everyone wants to do business correctly, not because an outside group is watching or monitoring but because that is the standard expected in the organization.

In our company, we are willing to negotiate almost everything, including hours of work and the like, but we are non-negotiable on impropriety. If such a situation occurs, our company changes from being a warm, friendly employer to one that aggressively prosecutes the offender. We have told employees that if they want to cut corners, they should go someplace else where propriety is not so vigorously pursued.

An effective internal audit program goes a long way toward setting the tone. Discharging those who violate company policies is the right thing to do and, in addition, sends a message. We have been burned for circumstances beyond our control, but we are vigilant about reminding all staff that we want things done properly and that no case is worth risking one person's job or all of our jobs. Propriety is a way of life and it starts at the top.

Myth #11: Technology is principally beneficial to the servicing end of our business - There is no question that technology is beneficial to the servicing business and that sophisticated data processing can do wonders for the efficiencies of the servicing function. Most of us are using modern-day technology in originations, including automated closings. An increasing number of us are using it in processing. I have found that technology is especially beneficial in providing information that enables the management team to make educated and wise decisions. As I have pointed out to our far-flung branch system, the people at the home office have the special benefit of having a vantage point of information that is more comprehensive. And with that information we can perform comparative analysis and develop appropriate decisions.

Those are my mortgage banking myths for 1991. I hope this attempt to separate fact from fiction hits home and at least some of the common half-truths and misconceptions that cloud the strategic planning landscape have been dispelled for now. When the time comes to do battle again with a new crop of myths, I will be ready. Until then, I hope this reality check serves you well.
COPYRIGHT 1991 Mortgage Bankers Association of America
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1991 Gale, Cengage Learning. All rights reserved.

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Title Annotation:separating myths from reality in mortgage banking
Author:Beck, Felix M.
Publication:Mortgage Banking
Date:Oct 1, 1991
Previous Article:Dodging the prepayment bullet.
Next Article:A new product formula.

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