April 1, 1998
This article was written for TD's Loan Servicing Review, Spring-Summer 1998 issue.
Of all the many challenges facing the B & C industry today, maintaining profitable production volumes while simultaneously preserving credit quality (thus controlling credit losses) seems to be the paramount balancing act. As the non-prime lending arena continues to heat up, with its attractive yields having caught the attention of conforming lenders and the GSE’s alike, hyper-intense competition may inevitably lead some lenders/investors to “bet the farm” lessening credit quality to dangerous lows and imperiling the very future of the individual company, and perhaps, the entire business segment known as “non or sub” prime. No doubt, of significant import in minimizing credit losses is a strong quality control program with continuous feedback to the origination areas; a sustained and on-going commitment to technology to track individual product profitability, performance; and to reduce the actual cost of originating and servicing a quality loan. Additionally, as this article is written by a Servicer and from a default servicing perspective, a special emphasis on value-added default servicing will pay major dividends to forward thinking B & C servicers/originators.
For the most part, external forces have historically imposed qualify control on the mortgage industry. Fannie Mae, Freddie Mac, FHA and VA have forced compliance with specific origination and servicing requirements.
Similarly, outside regulators such as the OCC, FDIC, and OTS have generally kept the regulated lending industry within certain defined parameters ensuring some minimum level of overall quality control and overall risk.
As we all know, no such compelling and comparable outside authorities exist for many in the non-prime segments. Much of the production becomes securitized and sold off to institutional investors, however, the oversight provided by rating agencies, underwriters and bond insurers is not generally from the same, third-party coign of vantage nor of the same comprehensive sweep. Operating in a relatively unsupervised arena, a major challenge to the B & C industry is to self-police to keep the business line strong and attractive to investors. Self-regulation is a difficult standard to maintain, especially in an era of intense competition as competitors vie for loans among the same pool of credit-impaired borrowers.
Obviously, the commitment of which I write here extends well beyond the necessity to become Year 2000 compliant.
A business imperative for the prospectively successful B & C originator is to reach and convince qualified borrowers and to actually originate and service the loan as cost-effectively and quickly as possible. Given the advent of the Internet and its broad imprint on the way in which Americans obtain information and make and execute business and personal decisions, B & C originators acquiring and maintaining technological solutions to the advertisement and solicitation, processing and servicing of their products will be among the likely survivors. Technology easily supports and provides answers and assistance in the area of quality control feedback. Assuming the collecting and tracking of an adequate number of data points: credit score, product code, source code, etc. (as a few examples), originators can easily refine product offerings to coincide with successful, profitable business lines.
In the area of default servicing, technology holds the key to significantly reducing the expense of that servicing while greatly improving results. Technology links to service providers via such connectivity as Alltel/CPI Interchange and the Prism initiative, to mention a few, allow a transfer of responsibility from servicer to out-sourcer or other service provider. The future will undoubtedly bring tighter and better focused networks of attorneys, trustees and other vendors in the default process (inspection companies, title companies and brokers) with direct access to a servicer’s system and a comprehensive network for the procurement of documents, pay-offs and reinstatements, BPOs and appraisals, title work, and account tracking and updates - all without the intervention of a servicer’s personnel.
Aggressive, hands-on intervention at the earliest stage of delinquency of a non-prime loan (many with LTV’s in excess of 100%) can pay big dividends in hard-cost mitigation savings and provide a competitive advantage to a well-positioned B & C lender/investor. In my view, forward thinking B & C originators and servicers are even now positioning themselves for the inevitable dramatic increase in non-performing non-prime loans. Given the tremendous recent increase in B & C production, the level of such non-performers, in absolute terms, will rise correspondingly with production. However, anticipating an increase both in national unemployment and interest rates at some time in the near future, it is a safe statement that default and asset managers will be extremely busy over the next half-decade.
Especially in this arena, technology holds many answers. Given enough experience and data, an effective default servicer can essentially evaluate its defaulted portfolio and isolate and focus on those borrowers most likely to rehabilitate and re-perform. Further, given retained servicer and currently obtained property and borrower data, the default servicer can craft, in an effort to sell, the most likely individual loan resolution for a particular defaulted borrower, all without ever speaking with the borrower. It is true, of course, that no deal can be made without actually talking to the borrower to determine his willingness and desire to reperform. At some point in time, a person (in this case, a loss mitigator or workout officer) has to make contact with the borrower. Armed with the appropriate analytical background, however, rather than engaging in many discussions, the loss mitigator will be able to recommend an individual resolution tailored to the needs of the borrower and investor alike, saving time and money for both.
Underpinning and cultivating the basic environment in which effective loss mitigation strategies can prosper is a commitment to strictly adhere to a program of foreclosure timeline management. Although the B & C servicer operates outside the influence and penalties of the GSE’s and agencies, we all well know that an imminent foreclosure sale is usually the greatest tool in effecting loan resolution on a seriously delinquent account.
Unfortunately, the mortgage industry in general has never fully recognized that a “dollar saved (in loss mitigation) is equal to a dollar earned (in loan origination).” This, of course, is only a true statement of an economic fact where the Servicer and Investor are one in the same or where the servicer is a guarantor of the performance of the loan. Every loan that results in an REO liquidation or charge-off erases the profitability of a great many performing loans. Well-trained, well-staffed and technologically supported default areas are even now significantly reducing credit losses thus affording certain B & C lenders a distinct competitive advantage in product pricing and overall profitability.