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The unbundling of an industry.

The splintering of the mortgage banking industry may have hit the point of no return. The profit margins, once large enough to support a thriving business, now are so squeezed and vulnerable they make one wonder if we've gone beyond the logical boundaries of unbundling.

Four years ago, I published in the pages of this magazine an article called "A New Paradigm for Mortgage Banking." It struck a responsive chord in the industry and was published in a New York University journal several months later. The article discussed the fragmentation of our industry and the forces that caused companies to specialize in certain micro-areas of mortgage banking.

I argued that the concept of division of labor first put forth 200 years ago by Adam Smith was a prerequisite to the maturing of our industry. Getting maximum returns on invested capital could not be achieved until mortgage companies outsourced all but the most essential components of their activities.

I concluded that if my thesis were true, the logical outcome would be a business where there would be tens of thousands of originators (i.e., mortgage brokers) all funneling product to several hundred seller-servicers all funneling their servicing to a tiny handful of giant servicers.

At the time I recognized that this was not a real-life scenario for the industry's future. But I clearly believed that the essence of this concept would come about. And it has. The industry has been broken apart into a multitude of different entities. Mortgage origination is often distinct from mortgage funding. And mortgage funding is often distinct from mortgage servicing.

The process of mortgage origination has great ease of entry. A phone, a few forms and you're in business as a mortgage broker. And in fact, there are thousands and thousands of mortgage brokers springing up regularly across the land.

I believed there would be fewer seller-servicers because it seemed logical that agency minimum capital requirements would increase. Although we haven't yet seen the shrinking of the number of players in this category, it is clear that the number is not growing. In the old days, every mortgage originator or broker wanted to become a mortgage banker "when he grew up."

Now, very few brokers even give lip service to wanting to become mortgage bankers. They have heard too many horror stories about such perils as managing interest rate risk and having to buy back loans. Furthermore, investors, such as Fannie Mac and Freddie Mac, have been tightening the requirements over the years.

So while the total number of originators has increased greatly these past several years, the number of true mortgage bankers has grown very minimally.

As for the shrinking number of mortgage servicers, that trend has already begun. My prediction that the number would shrink to a tiny handful has not--and obviously will not--happen. However, the trend is clearly moving in that direction. The top 10 servicers now control a much greater percentage of total servicing than was the case 10 years ago.

The original article definitely touched a nerve--evidenced by 50 or 60 phone calls to the author. Now with some distance between the initial predictions and current reality, it might be worthwhile to revisit much of what was said four years ago. Yes, our industry is becoming more rationalized. But, no, I no longer believe business entities can survive carrying out only one small subset of the mortgage banking process.

It's my view that the shrinking margins we suffer from are due to this very fragmentation of the mortgage banking process. Division of labor is a logical result of the maturation process in any industry, but the fragmenting of the industry has caused margins to shrink to the point where we must rethink division of labor. It may be that it is hurting us more than helping us.

The great Scottish economist Adam Smith said that the path of economic growth and progress was paved with specialization of function. Let's take a look at why I do not believe this to be the case in our industry. There are five areas in which we should test this thesis: wholesale, builder business, retail, pricing and outsourcing.


Traditionally, a mortgage banker was defined as a business enterprise that originated, underwrote, closed, sold and serviced a loan. It was a cradle-to-grave function, with the borrower having a relationship with the same lender from the moment the loan was applied for until it was paid off, as many as 30 years later.

There was no such thing as a mortgage broker to originate the loan. There were no wholesalers to fund the loan. And the servicing on that loan was almost never sold.

Now, of course, a borrower will often see a mortgage broker to package the loan. That loan will then be funded by a wholesaler. And the wholesaler may then sell the servicing on that loan, either immediately or at some later point.

The borrower has gone through three different companies before settling into a monthly routine of making payments.

There were a number of factors that perpetuated the old definition wherein the lender provided this cradle-to-grave relationship. First, there were almost no public companies. Therefore, mortgage company executives had no overriding need to demonstrate increased earnings. They needed to show enough earnings and capital to satisfy their warehouse banks, but that was all. Public ownership of mortgage company stocks was the driving force behind the selling of servicing to show earnings.

Second, the old definition worked because there was an extremely simple product line in the mortgage business. As recently as the late 1970s, there were really only two choices facing a borrower: conventional or government.

Conventional meant a 30-year loan. And government meant a VA or FHA loan. Conventionals were the domain of banks and S&Ls, whereas governments were typically done by mortgage companies.

All that changed in 1981. Interest rate caps for deposits and competition from money market funds caused massive disintermediation at the nation's thrifts. Further exacerbating the problem was the historically mismatched maturities for assets and liabilities in regulated financial institutions. S&Ls had traditionally borrowed short and lent long. That no longer worked.

Adjustable-rate mortgages (ARMs) were authorized, and the S&Ls jumped at them with a vengeance. There was every possible combination and permutation of margins, indices and annual and lifetime caps. In an attempt to standardize the market, Fannie Mae offered to buy ARMs, and their lengthy menu of programs may actually have added to the confusion.

Initially, the ARM loan was incredibly confusing to borrowers. But this confusion was a timely coincidence with the increasing red ink at the nation's S&Ls. Waves of newly laid-off loan officers, shed in thrift cost-cutting drives, set themselves up in business to independently market the complicated new product, knowing there was a ready market for the loans at most thrifts. S&L lending officers were laid off in massive numbers. But many of them were told that if they went into business as independent contractor loan agents, their former thrift employer would happily accept loans from them.

The thrift got the benefit of the loan agents' contacts with Realtors, builders and borrowers; but they had none of the fixed overhead associated with keeping them on as employees.

This happy coincidence worked well: The would-be borrower was faced with an overwhelming menu of loan choices. Borrowers could call 20 lenders and try to compare ARM programs on their own. Or they could go to an independent mortgage broker to do the shopping for them.

The role of the middle man will always come to the fore when consumers have a large number of choices. And in this case, the mortgage broker had clearly become essential as a middle man.

This worked well for thrifts seeking to keep overhead low and rapidly build up a portfolio of adjustable-rate loans. And within a few short years, this outside-producer approach to originating also became popular with mortgage bankers. They too could keep overhead low. Rather than fielding legions of loan officers, with all the attendant costs, they could have a very limited number of wholesale offices obtaining and funding loans from unlimited numbers of independent brokers.

It was extremely efficient, and while the fees collected were nominal, so were the costs. Most wholesalers had reps to go into the field and call on brokers. However, unlike the retail loan officer who got up to 90 basis points commission (i.e., 60 percent of a retail fee of 1.5 points), the wholesale rep would be getting between 5 and 25 basis points.

The value of the servicing obtained was the same in either case. But the wholesaler was paying much, much less in commissions for the same servicing. Furthermore, it was much easier to build a large servicing portfolio quickly through wholesale.

Even the biggest retail offices have a limit on the number of loan officers working there. Whether that number is 10, 20 or 30, at some point diseconomies of scale (and service) set in. However, one wholesale office can very easily work with 100 or more independent loan brokers.

Through this process, we can and have seen the rationalization of the origination of loans. The old ways have been replaced with the specialization and separation of originator and lender. And out of one entity, there now exist two.

The broker has the nimbleness of the entrepreneurial salesman, something very few large-scale organizations can equal. On the other hand, the wholesaler has something the broker does not have--capital. Both have a symbiotic need for each other, and both are made stronger for their respective specialization.

So far, this division of labor appears to make sense.

Builder business

Builder business is another part of our industry that has gone through intense changes in the past decade. In the pre-1981 days, there was a finite number of lenders who specialized in providing takeout commitments to tract builders, hedging their interest rate risk, and then originating, processing and closing individual loans.

It was a profitable business, with certain companies, such as First California, the Colwell Company, Sko-Fed, Wells Fargo Mortgage, Mason-MacDuffie and Suburban Coastal, dominating the business. There was usually a net commitment fee upfront, with standard origination fees on the back-end.

However, unlike true retail production, this was more profitable on the origination end. After all, once the commitment had been written to, say, Centex Homes, a national builder based in Texas, the individual loans automatically flowed to the lender. There was no need for repeated and expensive calls on Realtors. Once the commitment was issued, it was captive business.

In the mid-1980s, however, this started to change. Word got out to the builders that their loans were creating servicing value, and more and more of them wanted that value.

In some cases, builders would agree to, say, a standard 1.5-point origination fee, but then say that because the lender was getting servicing worth 1.0 point, they would only agree to an origination fee of half a point.

In other cases, the builder would set up its own mortgage company. In some cases, the sole purpose was to process loans for submission to the takeout lender. This served to create a greater degree of control over the borrower; it also became a profit center as the builder charged back to the lender the processing costs, plus a margin of profit.

In other cases, the builder set up a full-service lending institution, obtaining Fannie Mae, Freddie Mac and GNMA approvals, and getting warehousing facilities, usually from the parent company.

In some cases, they would perform the entire mortgage banking function--hedging interest rate risk, originating, processing and finally selling the loan. They would often auction off blocs of servicing, completing the circle. Centex Homes was very successful doing this.

Regardless of how the builder did it, this was yet another example of the fragmentation of the industry. Once substantial margins were now shared with others. Mortgage bankers were being squeezed out of areas heretofore their private domain.


The conventional wisdom is that a mortgage banker can no longer be profitable on the retail side of the business. In my 1989 article, I pointed to Lomas & Nettleton (now Lomas Mortgage USA), Dallas, as the prototype of the too-big-to-succeed retail lender.

With offices seemingly everywhere, Lomas woke up one day to a very curious fact: It cost X basis points to put a loan on the books, and X was more than the servicing was worth and more expensive than if the company simply went out and bought the servicing.

Although the following numbers are not exact, a lender might logically say something like, "We lose 159 basis points to obtain the servicing on one loan that we originate." The lender might ask, "because we originate loans in order to create servicing, why not get rid of these branches that cost us 159 basis points and simply go out and buy servicing at 100 basis points?"

In one way or another, this was the sort of conversation going on in board rooms across the country. Retail tends not to be a low-overhead operation. There is a large sales force, and we all know that the care and feeding of a sales force is costly. The old standard 50-50 split on commissions has gone by the wayside, with many companies now offering splits up to 60-40 or even 70-30 to attract topnotch originators.

How can you make money if you pay the salesperson 70 percent of the fee? The question pretty much answered itself, and lenders abandoned retail in droves, switching over en masse to wholesale. Retail, the industry concluded, really couldn't be profitable.

Irrational pricing

As much as one wishes it weren't so, the mortgage business has become a commodity business. An 8 percent, 30-year, conforming loan is the same loan regardless of who originates it. It's the same to the borrower in New York or California. And it's the same loan to the investor who buys it, be it the New York Teachers Retirement Fund or a Japanese bank.

This wasn't always the case. As recently as the late 1970s, one could look at surveys of mortgage rates in different regions of the country and see real and substantial differences.

If California had lots of new construction and a low savings rate, the price of money was bid up and borrowers paid a higher rate of interest. If Florida had a large retired population with massive savings and little desire to buy homes, the low demand for money caused rates to be lower.

This led to the wonderfully antiquated custom of East Coast buyers coming to California to buy loans. It was usually when the weather was at its most severe back East. East Coast buyers would usually already have inspected the loan packages, but on their tour of the sunny climes of California, they would typically drive by each property securing a loan.

This mostly ended in 1981 with the advent of the mortgage-backed security. With Wall Street buying mortgage-backed securities from lenders in all 50 states, the secondary market agency imprimatur made regional issues irrelevant. Shortly, there became one national rate.

This was true for fixed-rate loans, and fixed-rate loans only. Although national secondary markets rationalized interest rate levels for fixed-rate loans, they did not do so for adjustables.

Here, the savings and loans could run amok, and run amok they did. Federal Home Loan Bank regulators were pressuring thrifts to put adjustables on their books. Unfortunately, they did not insist on either rational pricing or rational underwriting.

In their zeal to match maturities, a great many S&Ls offered teaser rates that guaranteed a loss. This may have been necessary to entice a public wary of this new thing called an adjustable, but it was still a prescription for disaster.

The S&Ls' penchant for predatory pricing was also due to excessive liquidity. Deregulation allowed them to grow out of their problems. "Let us take in vast amounts of brokered deposits," the theory went, "we'll put them into adjustable-rate loans, and everything will be all right."

Perhaps the thrifts didn't realize how successful the FSLIC sticker would be in bringing in unlimited deposits. As the money poured in, it didn't just go into ill-conceived construction loans. Unfortunately, too much went into mispriced or poorly underwritten ARMs.

The Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) put an end to this sort of suicide in 1989.

Now mortgage lenders can no longer compete on price. National secondary markets have eliminated price differentials for fixed-rate loans, and federal statutes have made it more difficult for thrifts to compete irrationally on teaserrate ARMs.

So, what is left? As always, there are three things that can allow one to succeed in a commodity business. Low overhead, good service and capital. As margins continue to shrink, these three requisites are more important than ever.


In the earlier article I talked about fragmentation and the rationalization of our industry. The analogy I used was that General Motors did not make the glass, seat belts, engines and radios for their cars.

They were an assembler of products built by others. Granted, they did their own engineering and their own engines, but why reinvent the wheel to put stereos in cars? Why not buy them in bulk from Sony?

I believed that this sort of activity--being an assembler of things produced by others--was the future of our business. I envisioned the mortgage company of the future as the following:

* It was a wholesaler. So it contracted out the origination function to third-party originators.

* It used an outside appraisal firm to do review appraisals or to maintain its approved appraiser list.

* It recognized that hedging was an area of expertise beyond its scope. Therefore, it found one of several outside interest rate risk managers to hedge its pipeline.

* It closed its own loans with its own warehouse lines.

* It contracted with a number of firms offering independent quality control work.

* It recognized that a larger servicer had economies of scale it couldn't match. So it had that larger servicer be its subservicer.

Out of the six functions typical of a mortgage company, our futuristic prototype engaged in only one--funding its own loans.

We have now had four years of experience to see if my future vision of the industry works, and what have we learned?

Does fragmentation work?

We must look at the individual components to test the validity of my 1989 hypothesis about our industry's future. Let's start out with originations.

Mortgage brokers have been--and perhaps should be--a cottage industry. The broker should be everything that the retail mortgage banker tried to be.

He or she should be active in local affairs, close to the Realtors in the community, the equivalent of the local banker that everyone used to go to in order to obtain a mortgage.

This is the case for many, and perhaps most, mortgage brokers. They do virtually everything that the brontosaurian giants couldn't do. They are quick to react and close to their customers.

However, a disturbing trend first became visible in 1989: the broker as pseudo-banker. Many mortgage brokers hooked up with wholesalers who offered table funding. By this concurrent assignment-type of funding, these brokers were able to imply to the world that they actually funded their own loans. Too often I heard it phrased as "Yes, we're a direct lender. We fund in our own name." Left unsaid was the fact that the broker had no warehouse lines and funded in his or her own name in theory only, assigning the loan to the wholesaler instantaneously. However, many of these companies were able to take the guise of being direct lenders and become wholesalers in their own right.

The mortgage broker-quasi-mortgage banker would go to the smaller, less-sophisticated brokers and act as a wholesaler. Unfortunately, there were two problems. First, this company was trying to arbitrage the difference in fees between those collected from the broker and those charged by the true lender. Collecting $500 and paying $250 was simply no way to earn a profit.

I remember one of these individuals telling me that he was going to be fabulously successful. When I quizzed him about making all of $250 per loan and not getting any servicing value, he insisted that he'd succeed given enough volume.

The second problem was that as soon as the small originating broker saw to whom the loan was assigned, there no longer was a need to go through the intermediary "wholesaler." He or she could approach the true lender directly.

I point out this example because it illustrates perfectly how fragmentation can be carried too far. The wholesale correspondent (our pseudo-wholesaler) was a logical extension of lenders chasing volume.

In my view, too many of these pseudo-wholesalers were approved by large buyers of loans seeking high volume. The issue was no longer one of third-party loans. These were truly fourth- or fifth-party loans. This is fragmentation gone too far. The margins just weren't there to support this degree of splintering of activity.

These pseudo-wholesalers are the lenders who wanted to be originators only. In reaching this logical conclusion of the fragmentation of the origination business, they got the worst of all possible worlds: They made almost no profit per loan, and they failed to create servicing value.

What about subservicing?

What about the company that wants to specialize as a true originator, and leave the servicing function to a subservicer? It used to be that subservicing made sense, especially for a new company. In 1992, this was proved to be a falsehood of the worst sort.

Certainly, a giant servicer has great economies of scale that a smaller servicer can only dream of. Yes, they have the capital to invest in technology. But the giant subservicer fails in one vital area--prepayments.

In 1992 and early 1993, virtually every loan was a candidate for refinancing. Full-service mortgage bankers could inform their borrowers that they should contact their lender about a refinance. Every monthly coupon could have a message and an 800 number. There could be mass mailings to solicit refinances. In some cases, telemarketing teams could proactively call up borrowers to encourage them to refinance.

With the larger full-service lenders, this tended to work. After all, Mr. Smith wrote a check to his lender every month, he got an impound analysis from his lender every year, and his lender periodically sent letters regarding mortgage credit life and other products.

In short, he had a relationship with his lender. It was only logical to think of this current lender when it came time to consider a refinance.

The perception--real or otherwise--was also that his lender knew a lot about him, his credit, his property, and that the loan processing would be easier the second time around.

But what about Lender X who had its portfolio subserviced by Servicer Y? If Lender X was a retail originator, it had a relationship with the borrower for the four to five weeks it took to process the loan. After the loan closed, the borrower got a letter noting that Lender X has its loans subserviced by Servicer Y, a company that may be located thousands of miles away.

From that point forward, the borrower will no longer have anything to do with Lender X. Every communication is now with Servicer Y. Before long, the originator--Lender X--is, at best, a distant memory. When it comes time to consider a refinance, the borrower hasn't thought of Lender X for years. He is an open target for every other lender in town.

It's even worse if the lender is a wholesaler. In this particular case, the borrower spent four to five weeks dealing with a mortgage broker. The loan was then brokered to a lender, who, in certain cases, turned over the servicing to a subservicer.

The name of the lender was in front of the borrower for maybe a day or two. The borrower has absolutely no relationship with this lender. It is virtually impossible for the lender to have a relationship with the borrower, and there is virtually no way he can retain that servicing.

Lenders who had their portfolios subserviced found out in 1992 that they were sitting ducks for portfolio raids. Their borrowers refinanced with almost everyone but their original lender. That lender was long gone. The name was a faded memory.

This is one example of fragmentation leading to the unintended consequence of diminished profits. The lender contracted with a subservicer to take advantage of someone else's economies of scale. He wanted one report and one check a month. He got these. But he also got massive prepayments when rates dropped. There was no ongoing relationship with the borrower; no way to go back to that borrower for a refinance.

Clearly, outsourcing the servicing function--the epitome of the rational fragmentation of mortgage banking--was a potential time bomb. During the refinance craze of 1992, the time bomb exploded.

What about the flip side? What about the servicing-only company? This was perhaps an even greater disaster-in-waiting. Let's look first at how this phenomenon came to be.

We already mentioned Lomas Mortgage USA as perhaps the first company to realize that it could buy servicing cheaper than it cost to create it through retail originations. This, however, was a rare phenomenon until 1990 and 1991.

In 1989, FIRREA was passed, with an important aspect of the law being the creation of the Resolution Trust Corporation (RTC). The RTC's mission was to liquidate failed S&Ls as quickly and effectively as possible.

When the RTC went into the thrifts, it found land loans, construction loans, bad loans of every stripe, not to mention a host of foreclosed real estate. However, one bright spot was that a number of failed S&Ls had been active mortgage bankers.

When the Office of Thrift Supervision (OTS) seized a thrift and turned it over to the RTC, there was typically a cessation of all lending. Mortgage origination branches will die quickly if ordered to stop lending. Producers will leave overnight, and soon, the branch is dead. In a limited number of cases, the branches were allowed to continue originating loans, as long as they were all sold.

In either case, the RTC found that it could not sell the whole thrift; instead, it would have to sell off bits and pieces. No one wanted to pay for the origination branches. They were just excess overhead to an acquirer.

Servicing as a stand-alone business

Following on the analysis used by Lomas and others who dropped retail in favor of wholesale, bidders for the remnants of failed thrifts asked why should they create servicing through originations, when it was cheaper to buy it? So the branches simply withered away.

What was of value, however, was the servicing. This is an asset with a quantifiable value. The RTC selected two primary servicing brokerage companies to auction off the servicing. Tens of billions of dollars in servicing were ultimately sold by the RTC, with some estimates going as high as $80 billion.

To be sure, many of the buyers were companies already in the business, companies simply wanting to increase the size of their portfolios. However, there was a new breed of buyer. This was the business enterprise that wanted to own servicing for its ostensibly high rate of return. These businesses were set up for the sole purpose of owning servicing. They would be in the origination business in name only. They would essentially be coupon clippers, taking in the monthly servicing fees and doing so for the next 30 years or so for the life of the loan.

When the refinance boom of 1991 and 1992 hit, these servicing-only companies were sitting ducks. Unlike the originator who had its loans subserviced, these companies did have a relationship with their borrowers. The borrowers made checks payable to the servicing-only company every month.

However, without an origination capability, borrowers went elsewhere to refinance. The servicing-only companies saw their portfolios get decimated.

Rates of return went from good, to poor, to negative. Even if these companies had the capital to buy new servicing, it was running off faster than they could replace it.

This type of fragmentation worked in theory. It failed miserably in terms of execution.

Where does this lead us? There can be only one conclusion. The originator that didn't do its own servicing couldn't retain its borrowers. And the servicing-only company that didn't originate likewise failed to retain its servicing.

The fragmentation that made such sense in theory has failed in the real world. It turns out that the origination function and servicing function are inextricably tied together. They need each other. Specialization makes sense from a textbook perspective. But in real life, maybe we have taken mortgage banking companies and broken them apart just a little too much.

Wholesale only

I still believe there is no better way to quickly build a servicing portfolio than through wholesale. However, it is no longer evident that wholesale is the only way to go, and that the origination function should be surrendered to the mortgage broker.

First, if for no other reason, it makes sense to have a retail function to solicit the portfolio. This can be a protective service to guard against massive prepayments. Or it can be a proactive way of cross-selling second mortgages and other loan products.

Second, an argument can be made that an efficient hedger can make greater profits from retail than from wholesale. Without getting into all the esoterica of hedging, suffice it to say that in a bull market, the wholesale lender will have less ability to hold a rate lock and make an overage than the retail lender.

Let's assume that the borrower is getting his or her loan from a broker. First, that broker has near-perfect market knowledge. He may be approved by 30 or 40 lenders and gets rate sheets from every one. He knows that the price of that loan has gone up, so it makes sense to pull the loan and take it to another lender. Second, at this point, he has only locked in the loan. The package may not be submitted for several more days, and he need simply cancel the lock with the first lender, lock with a second lender who has the current higher price and submit the loan.

Compare this with the retail customer who doesn't have the ability to closely follow daily moves in market interest rates and thus is less tempted to walk from a lender for a better rate.


So far, I have been talking about the rationalization of our industry. One area where it is clearly irrational is in the area of compensation.

It was not unusual in 1992 for many mortgage banking company executives to make $500,000 to $900,000 for the year. Many were hired with minimal bases, but with bonuses tied to some percentage of pretax earnings plus the value of the added servicing. The range of these percentages was from 10 to 30.

Say we have a company that earned $1 million pretax and added a net $300 million of servicing. At 15 percent of both components, our CEO got a $150,000 bonus for the earnings and a $450,000 bonus for the value of the added servicing, assuming it is worth 100 basis points. On top of, say, a base of $150,000, this person took home $750,000 for the year.

I have always believed in compensating the top person for outstanding performance. I don't begrudge any of these people their compensation levels for a moment. The executives of our industry are being paid well because they have been delivering superior performance. They have been delivering rates of return that probably warrant even higher pay levels.

I have certainly seen salaries ratchet up over the years for underwriters, processors and funders. I do not begrudge these people their higher pay either. They work hard and perform a specific function.

Clearly out of line, however, are the compensation levels for marketing reps in the wholesale end of our business. I have met legions of these people, all of them earnest, enthusiastic and hard working. But I sit in amazement as they tell me of the 10 or 15 or even 30 basis points they get per loan. Our bank has interviewed large numbers of these people, but we simply cannot understand paying them the $150,000 to $300,000 they have become accustomed to making.

While marketing reps certainly have their place, our business has changed and new systems of information distribution have diminished their value. It wasn't that many years ago that rate sheets were mailed and actually delivered by hand. The facsimile machine and other technologies have made this essentially obsolete. And various overnight delivery services make it unnecessary for a field rep to physically pick up loans at the broker's office.

Perhaps the most important function for these reps is to get brokers to sign up with wholesalers, and here, there is real value added. But once that broker is signed up, do you really want to pay the rep 15 basis points for every loan that comes in from that source for the next five years?

At what point do the loans come in because the lender decides to be aggressive on rates or add new programs? Or what if you're in a 1992 scenario in which volume doubled simply because of the huge bond market rally? Does it make sense that the reps' income should also double? At what point should these accounts become house accounts?

I believe that we will see a significant drop in compensation levels for these people. I believe that most mortgage brokers want someone who can take their call, give them an answer and solve their problem--now. Not tomorrow, but today. And a field rep can simply not be as effective at solving problems as an in-house person.

In the earlier article, I suggested that the logical and rational evolution of our industry would lead to 5,000 mortgage brokers originating loans, selling them to 500 wholesalers, who would sell to 50 giant mortgage banking correspondents, who would then sell their loans to Wall Street or the agencies, and who would then sell their servicing to five giant servicers.

Max Weber, the German sociologist and economist, would have described this as an ideal type, something which seemed to make sense conceptually, but which was never achievable. I now believe that not only is this paradigm unachievable, I no longer believe it necessarily makes sense.

We have already seen that originators must be in the servicing business and servicers must be in the origination business. We have seen margins shrink dramatically in the past several years. There is overcapacity in our industry, and economist John Maynard Keynes' maxim that ease of entry leads to ruinous competition is truer today than ever.

The answer may no longer be to take the mortgage banking industry and break it into its smallest components, each to be handled by a specialist. Outsourcing does make sense in certain selected areas. However, the concept of outsourcing virtually everything but the closing function is to leave too much of one's destiny in the hands of others. The answer may be to return to our roots. The solution to shrinking margins may be to reassemble these functions and to once again have a full-service mortgage banking industry.

Joe Garrett is president and chief executive officer of American Liberty Bank, Oakland, California.
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Title Annotation:mortgage banking industry
Author:Garrett, Joe
Publication:Mortgage Banking
Article Type:Cover Story
Date:May 1, 1993
Previous Article:Mortgage insurers and HMDA.
Next Article:Back to the future.

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