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Heavy refinancings are prompting lenders to recall what they learned from the last steep slide in rates in 1986 and 1987. This refi boom is spawning some new approaches to beat staffing shortages, bypass processing bottlenecks and quell runoff.

Although some aspects of the current refinancing boom trigger strong memories of the 1986-1987 experience, this boom has its own unique characteristics.

Even so, lenders are trying to put into practice all the lessons they learned from the earlier refinancing crunch. But by talking to many in the industry, one thing remains clear - the task of managing through such an avalanche of business puts heavy strains on even the most well-run operation. But given the choice between too much volume and too little - it's easy to guess which problem lenders would eagerly opt for.

The heavy refinancing volume is expected to continue well into this year. perhaps this will give executives the experience they need to master the crucial management solutions that will be necessary the next time mortgage rates slide deliriously through the floor.

How is this refi boom different? Well, one way is that some borrowers who just bought a home a short time ago are being lured quickly back in to refinance, in much shorter order than past norms have dictated. The lowness of the current lows in fixed mortgage rates has prompted unusual borrower behavior that defies past refi maxims.

For example, some people who bought homes in August and September last year were already refinancing in January of this year, says Ann Hutchinson, president of FirstCity Mortgage Corporation in Bettendorf, Iowa. These days, borrowers aren't holding on to their original mortgages very long without being lured into refinancing with today's single-digit rates. "We're now doing three times the volume we normally would be," she adds.

As a result, the Mortgage Bankers Association of America's (MBA) forecast for 1992 residential production was revised upward from between $580 billion to $620 billion in October to $800 billion by January 1992. MBA Deputy Chief Economist Richard Peach expects $350 billion of that total to be refinanced loans.

"We're all stretched out pretty thin," says Fred Johnson, senior vice president at Shawmut Mortgage Company in West Newton, Massachusetts. "We're working holidays, on Saturday and Sunday, and nights. In this business you have to take the opportunity when it's there."

Shawmut's volume totaled about $1.4 billion in 1991. In early 1992, production was "at least 100 percent above prior months," according to Johnson - and 70 to 75 percent was refis.

One reason the current heavy surge of refinancing activity caught many lenders by surprise was the fact that rates have not fallen as quickly or as much as they did during the last refinancing boom of 1986-1987. By contrast, from the winter of 1985 to spring of 1986, rates fell more than 2 points.

But in April 1987, the last refi boom came to a halt as the bond market, reacting to federal deficits, weakened and mortgage rates shot back up into double digits. Lenders back then found themselves with uncovered positions and with too much production capacity, while homebuyers started clamoring for ARMs again.

Then, in the years following, comparatively slow volume during 1988 and 1989 tested the abilities of mortgage company managers to keep their firms profitable on modest volume and slim profit margins. Now the current refinancing boom is testing mortgage companies in a different way - by finding out who can handle massive volume from refinancing borrowers, while at the same time not underserving the more long-term Realtor/builder origination business.

Growth opportunities

An aggressive lender could open up new offices and double its volume, Shawmut's Johnson claims. "You could do anything you want to today. If interest rates [return to their recent low of roughly] 8 percent, virtually every homeowner has the potential to refinance," says Johnson.

With rates recently hovering at their lowest levels since 1973, "Everybody can have, within reason, as much business as they want now," agrees Mike Padalino, president and COO of Birmingham's AmSouth Mortgage Company, Inc. He reported origination volume in January that was 150 percent greater than the levels recorded at the end of 1991. Refis accounted for more than half of the total. Padalino notes that refinancings normally are just 12 to 15 percent of AmSouth's production.

For Amsouth and other lenders, the growth has come without adding offices beyond the company's previously planned expansion. "It's very stressful for our employees," he adds. Reminding workers of the cyclical nature of home lending helps keep them motivated now, Padalino says.

Today's borrowers are much more educated about interest rates than they were during the last refinancing boom. David Ward, CMB, executive vice president and chief administrative officer at Owensboro, Kentucky's Lincoln Service Corporation, says that borrowers looking to refinance mortgages generally prefer one of three options: switching from an ARM to a fixed-rate loan, moving to a lower fixed-rate mortgage or getting a shorter-term mortgage - usually in the form of a 15-year loan or a balloon or two-step mortgage.

Managing volume

After watching his pipeline earlier this year balloon to accommodate three to four times its normal number of loans, Boatmen's Mortgage Corporation CEO David Ennis says he has "no idea" what to expect in terms of 1992 volume. The St. Louis-based lender says the increase in business was "very sudden - more rapid than in 1986."

"Volume is substantially up," concurs Lincoln Service's Ward. "Our business is limited only by our ability to gather human resources and phone lines."

In order to process mortgages in the pipeline, some lenders are taking steps to limit the number of incoming applications. Some of the PHH US Mortgage Corporation phone lines in Cherry Hill, New Jersey are shut off at 5 p.m. rather than keeping normal hours until 8 p.m., says President H. Robert Nagel. Making a few borrowers wait a day to call in isn't a hardship for them, and helps keep the PHH system from overloading, he explains. PHH US Mortgage production totaled $3.2 billion in 1991, up almost a third from the previous year.

To handle the volume, "Everyone has taken one step down in the organization," says Nagel. Managers are reviewing loan files, and meetings are rare these days. One exception is the "5 o'clock meeting," where staff can "get matters resolved with senior managers, so they don't have to go looking for answers to questions," says Nagel.

"In most areas of the company we're at maximum capacity," says Deborah Blume-Sturges, senior vice president at Waterfield Financial Mortgage Company, Inc. in Ft. Wayne, Indiana. Waterfield is concentrating on keeping close to its Realtor customers and handling refis for its servicing portfolio. When homeowners come through the door, they might be encouraged to go somewhere else, she says. "We try to be upfront," Blume-Sturges adds, saying Waterfield will let walk-ins know when their applications can't be serviced properly.

"Profit news looks good for everyone in the mortgage business," says Stuart Feldstein, president of Budd Lake, New Jersey's SMR Research Corporation. Record originations, servicing portfolio increases despite runoff and warehousing profits are all helping mortgage bankers, he adds. Because many of the refinanced loans are ARMs, portfolio runoff isn't a big concern for fixed-rate lenders. "A mortgage banker is getting six [loans closed] for every four he loses," Feldstein contends. In addition, the steep yield curve is making loans profitable while they are still covered by the warehouse line.

Potential problems

Yet other issues cloud today's production euphoria. Higher servicing portfolio runoff, plus the need to manage fallout and hedge against potential rate spikes are keeping managers busy - when they're not underwriting applications due to staff shortages.

Some lenders are concerned about being able to keep up the amount of purchase loan business they do in the midst of the refi boom. Refinancing accounted for just 30 percent of all residential originations during the 1986-1987 refi boom, according to the MBA economics department. And MBA's data shows that refis made up 30 percent of 1991 volume.

During the first quarter of this year, however, MBA's Peach reports that refis were 60 to 70 percent of all production. And, despite low interest rates, the resale market for homes has remained sluggish; existing home sales were down 1.1 percent in 1991 from 1990 levels, according to Peach.

PHH US Mortgage is finding that some borrowers looking to refinance don't qualify for a new mortgage under the same terms as before because of home depreciation. Some of these homeowners end up having to get mortgage insurance due to falling real estate values. Nagel's phone operators suggest that homeowners ask a local Realtor if their home's value has dropped before applying to refinance. Because of this concern, PHH US Mortgage doesn't take applications in some areas of the country, he adds.

Despite these issues, 1992 should be a record year for originations. Dale Poszgai, president of McDash Analytics, Inc. in Jacksonville, Florida, says that of the five million loans his firm tracks, 38 percent have note rates of 10 percent or more. "Unless they're moving or can't qualify, these people must be thinking about refinancing," he says.

More than one-third of the mortgages McDash monitors in its database are at rates between 9 and 10 percent. Poszgai has found that prepayments rise whenever current mortgage rates are below note rates by 1 percent. "The floodgates open," he adds, when that differential rises to 2 percent.

A surging refinance market - outside of normal seasonal payoffs from the prime homebuying season - began to emerge with certainty last fall. Usually prepayments peak in August and then decline the rest of the year. But from September until the end of 1991, each month showed "accelerated increases" in prepayments, he adds. By December, portfolio runoff was double the rate from the previous year. Poszgai says conventional loans prepaid at more than a 19 percent annualized rate in December, while government loans had annualized prepayment rates of almost 11 percent.

One West Coast wholesaler said his volume was 90 percent refis in January. It's not uncommon to find California mortgage brokers frustrated about getting loans closed due to the volume. However, East Coast mortgage broker Ron Weismiller, president of Weismiller & Associates, Inc., in Bethesda, Maryland, says wholesale firms "are not getting slower. They're busy, but they're doing an excellent job for us."

FHA refis

Not everyone is concentrating on aggressively going after refinance business even if the mortgages are from their own servicing portfolios. "It's not fair to the investor to solicit refis," says Terry Malone, CMB, president and CEO of Platte Valley Mortgage Corporation in Scottsbluff, Nebraska, whose company does nearly all of its business as a government loan servicer. Refis are pursued only after a payoff notice is received at Platte Valley. "We try to get them to leave it where it is," Malone explains.

He estimates that 25 to 35 percent of all current payoffs end up refinancing at Platte Valley and that half of all loans with refi potential are staying with the servicer.

FHA-streamlined refis are the only ones that Platte Valley currently offers. Borrowers must have been in the home for six months and be current on payments to qualify for the FHA program. Monthly MIP is added if needed on older loans - but otherwise borrowers are simply getting a new, lower rate.

No origination fee is charged, says Malone, and there are "no junk fees. It's not a money-maker." Malone sees the FHA-streamlined refis as protecting his servicing portfolio, and he is surprised that FHA isn't expanding the program to strengthen itself by actively soliciting refis for borrowers who have trouble meeting their payments. Today's low rates provide "a once-in-a-lifetime window of opportunity to work out marginal loans" by reducing their monthly payments, says Malone.

Staffing solutions

PHH US Mortgage's Nagel reports production "was up 50 percent (in the fiscal year) before |refi mania' hit," so no excess staff was available. He characterizes this time as a "refi bubble. You can't really train people for it; you can't really hire for it. You live with it."

Nagel brings in pizzas for lunch every day, and allows more "casual days," when employees can wear what they want. He notes that workers appreciate knowing they have job security, and thus are willing to put in overtime and postpone vacations. In addition, workers who previously left PHH US Mortgage to spend more time with their families now are being offered the chance to work at home.

Nagel says "the issue is processing, not getting originations." But other lenders, such as Shawmut's Johnson, see staffing strains from originations all the way through closing. Using temporary employees to help keep offices staffed from 7 a.m. to 8 p.m. helps, but, Johnson adds, Shawmut also is running out of space and computers.

While traditional lenders are looking for underwriting help, mortgage brokers often try to keep processing costs down while increasing production capabilities. Diane Sweeney, vice president of marketing at The First Mortgage Corporation in Flossmoor, IIlinois, recently hired a loan closer to work with the firm's two processors. But she also is looking for five loan officers to add to the current sales force of 17. "We want to keep the support staff in line," says Sweeney. Last year First Mortgage's originations totaled $120 million.

Boatmen's Ennis says that hiring temporary clerks to support skilled staffers increases the volume the long-term employees can handle by 100 to 200 percent. For instance, providing loan officers with secretaries allows them to more quickly gather documents and send out applications to customers. Ennis says the lessons learned during this time will mean "permanent productivity gains."

Some lenders report not having staffing problems. Although 80 percent of Great Western Bank's January pipeline was refis, the Beverly Hills-based institution was not overloaded, says Senior Vice President Sam Lyons. "We had no layoffs a few years ago," he explains, "and existing staff is handling the volume now." Lyons expects originations of $8.5 to $9 billion in residential mortgages during 1992, up from $7.5 billion in 1991. Fixed-rate loans brought in 30 percent of Great Western's 1991 volume.

Novel approaches

AmSouth Bank is lending employees to the mortgage firm, and when combined with the overtime being worked by AmSouth Mortgage staff, "we're in pretty good shape," explains Padalino. "The majority of calls are returned the day in which they're made."

Underwriting is done within 48 hours, although that requires six- and seven-day work weeks and taking files home. Both executives and workers in other departments, such as quality control, are helping to underwrite, Padalino notes.

But not all other lenders are having such a smooth time handling the volume. "We're seeing service deteriorate," says Charles Huffman, president of Washtenaw Mortgage Company, a wholesale firm in Ann Arbor, Michigan. "The pipeline is full from one end to the other, and there's no one to hire."

Washtenaw Mortgage has a new computer that "streamlines the system with our correspondents," explains Huffman. It allows originators to lockin by modem and can send a fax at a touch of a keystroke. "But in reality, every file must touch a human hand at underwriting and funding," says Huffman, noting that bottlenecks generally occur in those areas. In 1992, he expects to bring in "well over $1 billion" in loans, an increase of around 20 percent from the previous year.

Sears Mortgage Corporation has shown even greater growth, with retail originations doubling from 1990 to $6.6 billion last year. Total volume for the Riverwoods, Illinois-based mortgage firm came to $8.2 billion in 1991, says Executive Vice President Arthur Ringwald.

He adds that Sears "began to realize there would be a strong refi market in November, and started hiring." Sears also negotiated agreements with mortgage insurers to get the services of contract underwriters. And temporary office workers with mortgage backgrounds grounds were hired for six weeks, Ringwald says. Additionally, a decision was made to "do the bulk of refis under alternative documentation" in order to save time.

Yet, because getting refinancing business "is no problem," says Ringwald, Sears also has chosen to remain "primarily focused on serving the real estate agent. It would be short-sighted to go after refis, and make money hand-over-fist. That's like found-money. Refis will go away, while real estate agents won't."

Marketing strategies

Refinancings accounted for less than half of Sears' retail production early in 1992, adds Senior Vice President Joseph Healan. "I won't say all of the loan officers are [overjoyed]" with Sears' decision to concentrate on working with Realtors, when there is so much other volume ready to walk in the door.

But "new purchase transactions in January were up 33 percent over December," notes Ringwald. He wonders if Sears' strategy is helping add to its market share in this area, or if purchase business is increasing for everyone. On the other hand, PHH US Mortgage's Nagel calls purchase home originations "scarily low."

PHH US Mortgage works heavily with groups such as the AFL-CIO and corporate relocation departments. During the refi boom, the firm isn't taking applications from persons not in affinity groups it serves, and is delaying the initiation of relationships with new groups.

However, last September PHH US Mortgage started telling its existing customers in its servicing portfolio via their account statements: "Before you do anything, call us," says Nagel. A certificate good for $250 off refi closing costs also is put in all coupon books. Nagel adds that PHH operators take a "soft-sell approach" by going through the economics of refinancing with callers. Because callers already are in the portfolio, there's no need in talking anyone into refinancing, he says.

Telemarketers also are used by Lincoln Service Corporation, explains Ward. Six people are on an automated phone system full-time, he adds. They can get information from the servicing portfolio in order to prequalify borrowers. "It's our investment in what the future of mortgage banking could be," Ward explains.

Runoff patterns

Both phone and mail solicitation are used by Boatmen's Bank loan officers to approach their competition's portfolios, says Ennis. Bank loan officers also bank products. However, most mortgage lenders concentrate first on their servicing portfolios, to avoid runoff.

Ennis says his portfolios "is running off at about a normal rate," but others report much-higher levels. "Runoff has dramatically increased," says AmSouth's Padalino. "It has probably doubled." All lenders are hoping that refis and other new production will replace portfolio runoff.

One firm keeping a keen eye on maintaining stability in the size of its servicing portfolio is Dallas' Lomas Mortgage USA, which emerged out of Chapter 11 bankruptcy in February, after more than two years under that status. Today replacement loans from correspondents are bringing in more than runoff is taking away, says President Michael E. Patrick. December 1991 brought the highest runoff before Lomas' bankruptcy re-emergence, Patrick says.

According to company officials, activity during December was as follows:
Beginning balance $28.335 billion
Runoff (15.3% annual rate) (360) million
New loans 543 million
Ending balance 28.518 billion
Gain during 12/91 $183 million

One source of new servicing for Lomas is through the California Public Employees Retirement System (CALPERS). Various originators offer CALPERS participants home loans with specific features determined by the retirement system. Lomas uses these loans to form a mortgage-backed security that is sold as an investment to CALPERS, while Lomas retains the servicing. Patrick adds that Lomas also has been "opportunistic with bulk purchases" in the past, buying substantial servicing packages mainly from the RTC.

Servicing prices

Bulk servicing purchasers - who expect to keep loans on the books at least half a dozen years - are concerned when they see annual runoff rates above 15 percent. When 30-year, fixed-rates were at 8.5 percent, servicing buyer "nervousness" was seen at packages with 10 percent note rates, "for fear they'd evaporate," says John Hopkins, Jr., president of John S. Hopkins, Inc., a Bethesda, Maryland servicing brokerage.

"Portfolios with 20 percent of the loans at 10 percent or above were hurt," he adds. "And anything seasoned for three to four years was in deep danger."

Fewer year-end servicing sales than usual occurred in 1991, Hopkins says. He attributes that both to better company profits that provided less need for income, and owners who saw more value in holding and refinancing the loans themselves, rather than selling packages "for next to nothing."

Hopkins says premiums of more than five times servicing fees are being paid for new conventional production, partly because it holds relatively scant prospects of refinancing any time soon.

Although ARM lenders probably are seeing the greatest runoff, the phenomenon has some advantages. Slower servicing asset growth is helping capital ratios increase at some institutions. Margins on adjustable mortgages also are very attractive now, because adjustments lag interest rate declines.

One lender notes that the refi boom is causing "a forced restructuring" of his low-balance, aging portfolio. He doesn't mind seeing some of the mortgages being paid off early.

Fallout figures

"We've been surprised," says Sears' Ringwald. "We've not had much of a problem with fallout." One way this is accomplished is by "finding out customer expectations with regards to closing," he adds. Borrowers are asked to fill out a form that states a target date for the loan. Basically, Ringwald adds, a customer is agreeing he will be happy if the closing occurs by this date - and Sears then works hard to meet it.

To make sure Sears' processing system can handle the volume and meet its commitments, the number of applications taken are limited. For instance, loan applications might be scheduled two to four weeks after the customer calls for an appointment

Lenders use various incentives to get borrowers to lock their loans. AmSouth Mortgage puts bank customers at the head of the pipeline, and offers 15-, 45-, and 60-day locks. Non-bank customers float until 15 days before closing, Padalino adds. Great Western Bank charges a $250 application fee, which then is credited to closing costs.

"Closing performance of lock-ins" is higher now than it was during the 1986-1987 boom, says Boatmen's Ennis. Mortgage broker Weismiller charges 50 basis points for a 30- or 60-day lock, and 1 point for a 15-day lock on refis. Purchase loans aren't charged a lock-in fee, he notes, because they are less likely to fall out of the pipeline. Shawmut Mortgage charges 1 point to lock-in rates that is credited toward closing, and Johnson says 40 to 50 percent of those refinancing take that option.

PHH US Mortgage offers a 60-day lock, and charges a 1 percent fee, which is applied to closing costs. Nagel says customers get either the rate at closing, or today's rate plus 25 basis points - whichever is lower.

Finding ways to make processing easier also helps keep customers happy, and gives lenders a better chance of handling the workload. For instance, in-file credit reports are done at the time of application at PHH, so that any problems are spotted quickly. Lincoln Service Corporation - which takes applications by mail - uses alternative documentation in an effort to "do it better than the guy in the local area," Ward adds.

Fannie Mae and Freddie Mac both have issued alternative documentation programs for refis. Both agencies require an in-file credit report, a mortgage payment history on the current loan, and a current pay stub or previous year's tax return for self-employed borrowers. If the current mortgage is held in the lender's portfolio, no appraisal is needed if the underwriter deems that the home's value has not declined.

Hedging strategies differ

Heavy concentrations of refinancings in the pipeline represent "a very difficult pipeline to get a handle on," notes the secondary marketing head of a national lender. "You don't know how to hedge them. They could be here today and gone tomorrow."

A secondary marketer at another national company prefers being "a little over-hedged. We don't like surprises." He explains that "April 1987 still is in my mind. Rates skyrocketed in a few days." Although not expecting a recurrence, he's prepared for one.

But one secondary marketer says the problems lenders face today are related more to operations than hedging. Volume took off when companies "just finished laying off everybody," notes SMR Research's Feldstein. "It's the nightmare of the mortgage banking industry."

Yet by the examples in this article, managers seem to be handling today's level of applications without dramatically increasing their production costs with expensive new offices or massive recruitment of skilled employees. Creative cost-containment measures may mean that a future slowdown in refi activity won't have the same effect as it did in 1987.

Howard Schneider is a financial freelance writer based in Ojai, California.
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Title Annotation:Residential Production; mortgage refinancing
Author:Schneider, Howard
Publication:Mortgage Banking
Date:Apr 1, 1992
Previous Article:Clocking the pace of prepayments.
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