Conventional Wisdom

HEADNOTE

Here is some of what was heard and seen in Boston during the annual convention of the Mortgage Bankers Association.

The Boston air was crisp, the sun was shining, the leaves were turning, and the anxiety was everywhere. Mortgage bankers and others

tied to the mortgage business gathered for the annual convention of the Mortgage Bankers Association (MBA). * Nervous executives peeled off into little groups, their hands wrapped around cups from Dunkin' Donuts or Au Bon Pain, sharing horror stories about the battered mortgage market. * There were lots of interesting speeches inside-one, in particular, from a man sporting the best-made suit you have ever seen in your life: rock star and championship global activist, Bono. "I came here to enlist you in saving the world," he told well over 1,000 people gathered for a general session. "But most of you are not in a 'save-the-world' state of mind, right now, are you? It's hard to think about saving the world when you have to think about saving your shirt, saving your home. Americans who wake up to find a pink slip or a foreclosure notice are not likely to spend their day thinking about Africa or America's role in the world," he said. * Having suffered through a mediocre to horrible year, and expecting worse, the executives gathered at the Hynes Convention Center in Boston were hearing and using terms like "mortgage market crash" and "credit meltdown." The message from industry leaders: 2007 was a rough year for the housing and mortgage businesses, and recovery is still not around the corner.

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Doug Duncan, chief economist for MBA, delivered this message to the media: The full impact of global credit shock has not been felt yet. With foreclosures everywhere, credit and spending tight, and home prices down, Duncan is convinced a turnaround may not materialize until 2009.

The amount of new mortgages made in 2008 will be under the 2007 number by 18 percent, Duncan predicts. The year after should see another 6 percent decline. And, by extension, jobs inside the industry are evaporating.

For those gathered in historic Boston for the year's meeting, headlined "Revolutionary Times: Making History," it might have been well to remember the pain and near-catastrophe of the Revolutionary War. And from the sound of it, the mortgage industry's version of the rough winter at Valley Forge still lies ahead.

MBA's outgoing chairman, John M. Robbins, CMB, co-head and special counsel of Vertice, a division of Wachovia securities, in San Diego, struck a defensive note in his opening address to his colleagues. Clearly offended by media accounts of the mortgage industry situation, Robbins insisted the mortgage industry is indeed reaching out to borrowers in trouble, and had created the Home Loan Learning Center (www.homeloanlearningcenter.com), with its The Simple Facts feature, getting more than 1 million hits a month.

But even Robbins admitted the industry had abandoned its underwriting discipline. Another troubling development is the high percentage of adjustable-rate mortgages (ARMs) now outstanding and about to reset. And he noted the overall economy was making payments on loans of all types an upstream swim for thousands of mortgage holders. Depressed economies in Michigan, Ohio and Indiana are adding fuel to the fire. And, Robbins said, "California, Arizona, Nevada and Florida saw unheard-of home-price appreciation, which in turn attracted an unhealthy percentage of speculators."

Robbins' prediction, after a year that he described as intense and frightening: "We have still not seen the bottom of the housing market. Legislative and regulatory perils remain. Hundreds of thousands of loans are about to reset."

Surely, one might think, the new MBA chairman, Kieran P. Quinn, CMB, chairman and chief executive officer of Column Financial, Atlanta, might be a bit more upbeat. Actually, no. In his view, there's an odd synchronicity between the rough early record this year of Notre Dame's "Fighting Irish" football team and the housing market.

"They have never started a season 1 and 5. ... There has never been a year like this before. Not for Notre Dame. Not for the housing market. Notre Dame hasn't looked like this in 120 years. And home prices haven't gone down since the Great Depression. We are in uncharted waters," said Quinn.

Ask the businesspeople working the three expansive floors of Boston convention space how it's going, and you get a mix of responses-sometimes from the same person. In the Florida retirement community served by John Davis, president of Citizens First Wholesale Mortgage Co., The Villages, Florida, it's been "a real good year, considering. A very good year," he says. Seriously? In this rough environment? "What I said was, we had reasonable sales," Davis clarified.

His clientele is people who, for the most part, have been managing their estates to prepare for retirement. So it's not exactly a reflection of the general marketplace. Unlike Fort Myers, Florida, for instance-"that whole area is devastated," says Davis.

Still, at The Villages, Davis acknowledges sales were way off from 2005 and 2006, "like they were for everybody else. But we're doing way better than a lot of other folks. We know that, and we appreciate that," he says.

Davis says there are still a few challenges at this juncture: "No. i, selling the home. The other is selling at the price the seller wants. And there's still a little intractability there," he says, adding, "although it's diminishing and waning slowly." Then there's the issue of stock-market shock "when this whole thing unfolded. It was a little paralytic, and people stopped making big decisions-they slowed," he says.

Then there's foreclosures

The full dimensions of the crisis have yet to be felt, according to congressional number crunchers. Bloomberg reports that, at the end of October, the Joint Economic Committee of Congress estimated that about 2 million subprime borrowers will lose their homes to foreclosure through 2009 if housing prices drop by a full 20 percent.

Working the MBA convention at the booth of Bear Stearns Residential Mortgage Corporation, Scottsdale, Arizona, President and Chief Executive Officer Jeff Walton acknowledged the dramatically shifting market has made this a rough year. Lots of layoffs in the industry have meant job losses for friends, says Walton. On the other hand, with players leaving the mortgage industry, there will be less competition and more business for the companies left standing. But one wonders who those companies are hiring with business conditions being so soft?

Someone's hiring

Roaming this convention are executives in the outsourcing business, such as Motif India Infotech Pvt. Ltd, Ahmedabad, India, and ISGN Technologies Ltd., Bensalem, Pennsylvania. These are people who say they can deliver a work product for less than some U.S. companies are paying currently. Souren Sarkar is representing ISGN. "Folks last year hardly made any money on the production process; in fact, they lost money," says Sarkar. His company advocates a mix of on-shore and offshore work.

Sarkar says this practice is already in use. "It used to be just the back-office services, [but] now it's expanded to the front office. A lot of default and loss-mitigation work is being done offshore by competent players," he says. These jobs are located in India, the Philippines and China.

Sarkar says his offshoring business is "people-oriented." The "people" getting the work, though, are not Americans. After establishing the outsourcing infrastructure, Sarkar says a U.S. business working through ISGN could see savings of 40 percent to 60 percent.

"We have investor-reporting accountants that are training in the U.S. that will be going back to their base in India and doing the work for the clients from the India operation," says Sarkar. The work of a mortgage executive making $75,000 to $80,000 in the United States would, through this outsourcing arrangement, cost $40,000 "fully loaded"-that is, including the setup costs. As a general rule, says Sarkar, a worker making $70,000 in the United States would make about $24,000 in New Delhi.

And Sarkar says the salaries at the junior level are outstandingly low. "So if you need a lot of processing work or calling work, where you can get folks with a few years of experience, the salary quotient is about $200 a month." Compare that with an American who might make $35,000 a year.

Back to basics

For those companies looking for other remedies, the erosion of homeownership (as ARMs adjust out of the reach of homeowners holding them) is going to mean a return to basics.

At a session, specifically not to be recorded-although the session was open to the media-industry leaders agreed the near-future outlook is for a continued decline. An overhaul of industry practices, they agreed, would be inevitable.

Paul E. "Buck" Bibb, chief executive officer of National City Mortgage Co., Miamisburg, Ohio, got no arguments in predicting "the recovery is still a long way off" and that a major step toward recovery would be a return to the old disciplines that, decades ago, made getting a mortgage such a painful ordeal. "As an industry, we need a consistent, reliable set of products. We have to be in a position to originate and sell. We're re-educating a whole generation of salespeople as to what this business is about," Bibb said.

David Lowman, chief executive officer of the Global Mortgage business of New York-based JPMorgan Chase & Co., agreed. "We're back to teaching people about things like mortgage insurance-what it is A and how to sell it," he said.

In California, where the "bubble" is, at best, deflating, that's already happening. Joe Mowry, executive vice president of operations for Lenders First Choice, Simi Valley, California, says the days of easy money are gone. "The work involved in getting a deal to the closing table and to close successfully is a lot harder than what it used to be," he says from experience, "especially compared to the boom cycle, where customers were refinancing several times over a two- or three-year period of time. There's just a lot more work to make it happen now," he says.

Government programs benefit

As the crisis continues to shake out, industry executives believe the Federal Housing Administration (FHA) could eventually step into a major lending role. Michelle Watson, director of home-ownership programs for the Virginia Housing Development Authority (VHDA), Richmond, Virginia, says business for housing finance agencies is booming as well.

"We're always an alternative to the market that's out there. We work with mortgage lenders in Virginia. They originate our loans. We're doing very well. We tend to have lower interest rates, and our programs are a little more creative. But at the same time, we work very hard at keeping people in homes." Most of her clients are low- and moderate-income first-time homebuyers.

Acknowledging that there have certainly been cases where borrowers have been preyed upon, Watson says the attraction of "buying and flipping" has been the ruin of many property owners.

"As long as the market kept rising, they weren't worried about getting in over their heads," she says. "They thought there would always be an opportunity to sell their homes. If things got too bad, they could turn around, sell it and make a profit." Until the subprime market crashed, that is.

Among key executives, the expectation is that the combination of weakening regions, like the Rust Belt; rampant speculation in the West, Southwest and Florida; and sloppy financial practices will continue to play out. Bibb worries openly that, in some places, the downturn may not bottom out until 2010. In the Midwest, for example, "We're challenged by job losses. In those areas, the 'correction' could be quite severe," he says.

The remorse about a mortgage process that in some quarters spun out of control is everywhere at this convention. Said new MBA Chairman Quinn, "Investors need more product transparency, and borrowers need simpler procedures and better education. We've called for simplifying the process for years and for disclosures that make sense to real people. It took a crisis to get that finally moving." Moving, but at what cost?

"There are a lot of subprime mortgage companies that are just gone-especially in places like Orange County, California. They just closed up shop," says Pete Petrella, director of mortgage acquisitions for American General Financial Services, Lawrenceville, Georgia. His company is a portfolio lender and hasn't had a very tough year. But he acknowledges this is a tough period, and the mortgage industry is getting smaller all the time.

Major industry players, including Countrywide Financial Corporation, Calabasas, California, are slashing jobs feverishly in an attempt to keep expenses in line with much lower volume. Countrywide alone anticipates more than 10,000 layoffs before the year is out.

Guy Cecala, publisher of the trade publication Inside Mortgage Finance, told The Washington Post in a Sept. 8 article, "Countrywide is a proxy for the overall mortgage industry. If Countrywide is laying off 20 percent of its people, you can expect 20 percent of all people in the mortgage industry will be laid off."

Meawhile, Countrywide's public image is at least partly in the hands of a big public relations firm that, to keep up rank-and-file morale, is distributing green plastic wristbands with a "Protect Our House" slogan. So far, the wristbands don't appear to be working. In fact, you can get one on eBay® (current bid at press time: $1).

Reshuffling the ranks of big firms

A strategy to quickly ramp up higher-margin lending by concentrating on the subprime market, by anyone's measure, has proven a disaster for the big players. Tom LaMalfa, managing director based in Shaker Heights, Ohio, for Columbia, Maryland-based Wholesale Access Mortgage Research and Consulting Inc., says it's creating a major reshuffling. "If you look at an index of who the 40 largest firms were last year, what you quickly notice is that 12 of the firms are now gone, and another 12 of the firms are what we consider to be in trouble," he says.

James Jones, president of First Wellesley Consulting Group, Wellesley Hills, Massachusetts, agrees. "I've been in the industry for 28 years," says Jones. "This is the biggest change I've seen in the industry in that period of time."

Jones says the market has demonstrated which business models work and which business models don't work. "The business model that doesn't work," says Jones, "is simply a quest for volume. In quest for greater and greater market share, credit quality sort of gets pushed to the background. And when it's pushed into the background, what happens is that over the long term, things do not work out. We've seen that with the alt-A; we've seen that with the subprime."

Alternately, conservatism has proven to be its own reward. "Folks that were more conservative-who said, 'We want volume, we want happy customers, but we want a heavy dose of risk management at the same time'-their powder's dry, and they're really positioned to regain market share," says Jones.

LaMalfa predicts a "huge and unprecedented" change in market share over the course of the next 12 to 15 months, as old players drop out of the market and the business gets redistributed. That, he says, "is net of all of the subprime and alt-A products that are in much more limited supply." So I think we're going to see a major change in the roster of who's who in the business.

For Indymac Bancorp Inc., Pasadena, California, and Countrywide, LaMalfa expects more limited opportunities, "because they have operated historically in a narrower band-Indymac, in particular, with the alt-A product. It will be a while before they can carve a niche for themselves in the conforming agency market," he says. Entering with new strength, says LaMalfa, will be community banks, with new opportunities. Fannie Mae, Freddie Mac and Ginnie Mae also stand to gain from the chaos, he says.

Patricia L. Cook, executive vice president and chief business officer, Freddie Mac, told the "Mortgage Industry Executives' Outlook" session in Boston that in recent years, "as a GSE [government-sponsored enterprise], it was difficult for us to provide leadership. Now we can step up to the plate." That kind of talk is slightly troubling to some of the largest industry originators who have been active in the private securities market as well as the agency secondary market. Chase's Lowman was clear: "We want the agencies to stick to their traditional mission-what they were put on Earth to do," he says.

For players who completely avoided subprime lending, or who sold their subprime loans to financially secure investors, the exodus of failing mortgage companies has been, well, fortuitous. That applies in warehouse lending as well. That's been the experience of David Frase, executive vice president for national mortgage warehousing at Southwest securities FSB, Arlington, Texas. "Business for us has been spectacular," he says excitedly. "We've had a number of competitors who've exited the business, and that's created a lot of opportunities for us. We haven't had the legacy losses. We were a smaller warehouse lender and missed the storm somehow."

Frase says his company is not averse to a continuing business in "jumbos, subprimes, seconds, all types, as long as they're supported by a valid take-out."

His is not an uncommon opinion that some part of the roiled market is the anxiety created by all the talk about the roiled market, something he calls headline risk: "where bank boards read the newspapers too much and got panicky, without fully understanding the true risks in this business." Frase believes that some players walked out when they didn't have to. "We felt our job as a warehouse lender was to stand by our customers and support them through this," he says.

Sometimes, it's helpful to look at yourself through someone else's eyes. Take the eyes of European economic observer Andreas J. Zehnder, financial analyst with of Verband der Privaten, Berlin, Germany. Zehnder is fascinated by the high risk that Americans are willing to embrace to own a home. The American system of housing finance, he says, "is totally dependent on the capital market, on interest rates. The Americans have variable rates; we in Germany have fixed rates over years." Of course, many American homeowners have 30-year fixed-rate mortgages as well, but never mind those details.

As for entry into the world of homeownership, Zehnder says that in Germany, the prospective buyer must produce between 20 percent and 40 percent of his or her own capital. "We see, with great interest, the Americans try to do it without any of their own capital," he says. "And we think that's wrong, as the subprime crisis shows."

Zehnder says it's clear the American system is flawed, and full of unpleasant gyrations. "Some people say the last crisis was in the 1930s. But I can remember the last crisis was the savings-and-loan crisis, and it was 1989 and 1990," he says. "So that's just 17 years ago. That's not very convincing that this is the right system."

It's quite possible that Zehnder might get a few nods of agreement from those suffering in the beleaguered U.S. mortgage industry. And for the next year or two, or possibly three, the outlook is going to be rough. Chase's Lowman recalled the advice of a mortgage industry wise man during the go-go years. "Don't change your lifestyle with three Mercedes and four Rolex watches," said this prescient individual. "One day it will end."

That day has arrived.

SIDEBAR

The full dimensions of the crisis have yet to be felt, according to congressional number crunchers.

SIDEBAR

For those companies looking for other remedies, the erosion of homeownership is going to mean a return to basics.

SIDEBAR

Conservatism has proven to be its own reward.

AUTHOR_AFFILIATION

Louise L. Schiavone is a television reporter and freelance writer based in Washington, D.C. She can be reached at schiavonel@aol.com.