It’s a new and challenging world for both mortgage lenders and customers
by Joy JordanThe mortgage lending industry on Cape Cod is adjusting to rapid – and often unprecedented – challenges. It’s not just the succession of interest rate increases and a slowing sales market. It’s also increased competition created by a surfeit of mortgage products and providers, combined with advances in technology that lets customers find lenders as far away as California.
Local banks, which used to be the primary source of mortgage lending, now hold only about one-quarter of mortgages. Brokers and outside lenders hold the rest.
Today’s vastly different lending environment has its roots 30 years ago with the creation of a secondary lending market, spurred by Freddie Mac and Fannie Mae, which underwrite mortgages nationwide. They provide liquidity and have allowed brokers to enter the marketplace because they don’t need capital of their own to lend, as banks do.
While the number of non-bank lenders grew, so did the value of residential real estate throughout the 1990s and first half of the new century. At the same time, very low interest rates spurred a refinancing boom.
All this, however, changed in the last two years – with the Federal Reserve continually hiking interest rates.
Lending market mirrors real estate fluctuations
“The mortgage lending market is experiencing the effect of two related phenomenon – both due to the increase in interest rates over last two to three years,” said Mary Lees Miller, senior vice president and chief residential lending officer at Cape Cod Cooperative Bank.
“On one hand, the mortgage business has been affected strongly on the refinance side, because those who refinanced in the last few years generally were able to lock in very low rates and so won’t be in the market to refinance again, unless they truly need the cash-out,” Miller said. “On the other hand, rising interest rates have also caused the purchase market to contract, and with it the mortgage market. Fewer homes are being sold, and because of higher interest rates, fewer people can qualify for a mortgage.”
In addition, Miller noted, the yield curve is flatter – longer-term instruments often end up with the same interest rate as shorter-term loans. That also serves to lessen the refinance market.
“The housing market obviously is very different this year than in years past,” said David Brennan, senior vice president and director of mortgage banking for Cape Cod Five Cents Savings Bank. “For several years, the values of properties were increasing so much that a refinance or sale could cover up many of the underlying lending problems,” he noted.
“Now that values are flat and are projected flat through 2007-2008, foreclosures are increasing across the state.”
Lending companies are feeling the effects just as much as homeowners.
“As the application volume decreases, lenders have to get more creative and proactive to produce business,” said Ron Standish, senior loan officer with American Home Mortgage. “Three years ago, anyone who could answer a phone could make money originating loans because of the low rate environment. Today the phone is not ringing.”
Standish sees that loan officers are changing companies or leaving the business all together. Lenders are downsizing and some are even pulling out of the market area. “This happens during every refinance cycle,” he observed.
“Only those individuals who have the industry knowledge and experience with different markets, and the highest level of professionalism, will prosper over time,” said Joseph Medeiros, president and CEO of Hyannis Mortgage Corporation and co-founder of New England Savings Bank (in organization).
On the other hand, the fact that market changes have forced some lenders out of business can have a positive effect on those that remain. “From the bank’s standpoint, when there’s a market like we just experienced, lots of non-bank lenders appear and then disappear when times get tough, so banks remain steady – as the number of customers decrease, so does the number of lenders, so it evens out,” said John Karras, mortgage officer for the Cape and Islands for TD Banknorth.
What it means for homebuyers
All these changes are also making it harder for some homebuyers to qualify for a mortgage.
“Since lenders are not being pressured to close loans due to an oversized pipeline, quality control comes into play,” said Standish. “Now there is more time to review, analyze, and even audit loan files. Lenders are more diligent to make sure they aren't producing loans that are unsellable on the secondary market. These loans hurt their bottom line.
“When a lender is closing 5,000 loans a month, they can afford to have 150 unsellable loans. When they are closing 500 per month, they can’t afford to have even 10,” he said.
This results in more loans being declined and more time and documentation required to get the loan closed. “Bottom line is the lender, loan officer and consumer have to work harder and smarter to get the deal closed,” Standish said.
It’s not all doom and gloom, however.
“In terms of the purchase market, the Cape is a special case in many ways due to its demographics,” said Cape Cod Cooperative’s Miller. “Many of the homes here are second homes, and those are often bought with larger amounts down, after retirees or near-retirees sell another home elsewhere or cash out investments to buy a retirement home here. That makes this a different market than elsewhere in the state or nation.”
Bert Talerman, co-regional president for the Cape Cod region for TD Banknorth, notes that it is important to look at the big picture. “To put things in perspective, for 2004-2005, the transaction numbers were huge, and even 2006 had a very significant number of transactions – volume is still significant and interest rates are still at historically very low levels, so hopefully there will be more confidence and people will get back into the market.”
Some borrowers may see a benefit from the market changes, said Karras. “There are products for the first-time homebuyer, including private mortgage insurance, which allow young couples to make modest down payments and still have affordable payments, while also protecting the bank. In a stable real estate market like I think we’ll see in 2007, banks will be more apt to lend to those borrowers.”
Nontraditional lending programs: Boon or risk?
In many ways, the market slowdown and interest-rate increases have brought about the end of an era: that of nontraditional or exotic home loans, especially interest-only mortgages and option ARMs.
“Many of these nontraditional products come from the newcomers, these new brokers, and were created by that group of companies to compensate for market changes,” said Brennan. While some of these plans can work under the right circumstances, many consumers are finding themselves overextended and in danger of foreclosure.
In an effort to combat that trend, he added, the state is undertaking a number of consumer-education programs to explain the risks involved in using such plans, and how to be on alert for risky lending practices.
On the flip side, Standish contends that the rise of brokers has served to benefit the consumer in the form of increased competition. “These companies have to offer better pricing and more creative, consumer-friendly products to attract business,” he said.
“Go back about 12 years ago, and consumers only had a couple dozen lenders to choose from and were only offered 15- or 30-year fixed-rate products or a 1-year ARM. Today, the consumer has hundreds of lenders to choose from with thousands of products available, depending on their lending needs and qualifications.”
Technology leaves its mark
As with every aspect of business, advances in technology have changed the mortgage lending industry. Consumers can check rates online, apply for loans online and get credit reports in minutes rather than days.
Still, customers demand handholding and personal service given the enormity of their investment in a home.
“The Internet, from my perspective, is mainly used by the consumer to gather information,” said Standish. “They’ll go to a local lender or bank and get a rate. Then they hop on the Internet and see if the quote they got is competitive. It’s very rare that someone will go on the Internet to find a company, apply for a mortgage and complete the process from start to finish.”
Brennan agreed. “Many applications are started on the Internet but completed in person; although it’s slightly more common for refinancing to be done start to finish online, as those consumers are often more comfortable with the process.”
For less financially aware consumers, the mortgage process may be too complicated to manage entirely online. “Unsuspecting consumers can easily get duped by Internet companies when engaging in a complex transaction such as a mortgage loan that could be structured with excessive fees or unexplained charges,” said Medeiros.
Noting that the majority of recent foreclosures have originated from online non-bank lenders, Karras said, “Sometimes when it’s too easy to get a loan, it’s not necessarily the best thing.”
Security issues are also a concern online. “People will go online and buy a pair of shoes or an iPod,” noted Standish, “but when it comes to sending all their personal financial information over the Internet, they are too resistant. Believe me, the lending industry has tried. It would make things so much easier and faster.”
Carving a niche
How are lenders making themselves stand out in a now-crowded market? In a word: customer service.
“There are lots of lenders in various categories: local banks, national banks, mortgage brokers, Internet brokers, even realty companies,” said Miller. “Product and price are therefore key to attract business. Many of these competitors are anonymous, while [Cape Cod Cooperative] capitalizes on the fact that we are local – you can sit down face to face.”
“The question is how important the personal touch is to you,” said Brennan. “Many people want to know that if there are problems, they can pick up the phone or talk to someone face to face.”
That personal touch can benefit the consumer in a variety of ways. “We have more flexibility. National companies have certain boxes in which you need to fit. We know people, how they run their business,” said Miller.
Banks now are looking not only to hold a mortgage, but also to woo customers for all their financial services – checking, savings, lending, investments and even insurance.
“We are in the relationship business,” said Talerman. “We want to be able to serve all of our customers’ financial needs. We want the loan to be a good experience for all involved.”
What’s ahead in lending?
One new product on the horizon takes that full-service concept a step further. Miller described a type of account currently popular in Europe and gaining ground in the western United States that encompasses checking, mortgages and investments into once account, with funds added and debited from that total.
“This is geared toward more sophisticated clients who might have a larger portfolio and better understanding of finances and how to make their money work for them,” she said. Cape Cod Cooperative does not currently offer this product, but is looking into it.
Brennan of Cape Cod Five believes that ARMs will continue to wane in popularity, with the traditional 30-year fixed-rate mortgage becoming the product of choice once again. “There will always be refis, because of life circumstances, but uncertainty in the economy and interest rates make people feel comfortable with a fixed rate,” he said. “Plus, there is not a huge incentive to have an adjustable rate when the yield curve is so flat.”
Claudette Vickery, residential lending division sales manager at Sovereign Bank, concurred about the decreasing popularity of ARMs. “Due to an inverted yield curve, adjustable rate mortgages are no longer a real bargain for homeowners planning to keep their property for seven or more years. On any given day, you may find the 30-year fixed rate to be the same as a 7/1 or 10/1 adjustable rate mortgage or only an eighth of 1 percent lower.”
In addition, “Part of the mortgage story is the home equity story,” noted Talerman. “Home equity loans have gotten so easy for people to get, and were beautiful when the prime rate was 5.25 percent, but now at 8.25 percent it’s a much different situation.”
In that scenario, said Karras, customers can save money by converting to a fixed because the average rate of the two is less.
However, noted Medeiros, ARMS will still have their place with certain consumers. “Historically speaking, many consumers refinance their homes every three to five years,” he said. “And if they do, and have chosen a 30-year fixed mortgage, they pay thousands of dollars more than they would if they had the right type of adjustable rate mortgage program for the same period.”
He cautioned that it is important for borrowers to discuss the options with their lender to ensure that all aspects of the loan are understood.
Due to our particular demographics here, one mortgage product increasing in popularity on the Cape, Miller noted, is the reverse mortgage. It allows older homeowners to use some of their equity now for living expenses or medical costs.
Concern over unsavory lending practices and increasing foreclosures is causing many lenders to reexamine the process.
“I feel that lenders are going to continue to develop loan products that will be consumer friendly, while working hard to reduce the risk to the investor,” said Standish. “Over the past several years, the number of 100 percent financing and high loan-to-value stated-income loans have increased. These loans tend to be higher in risk to the investor and have a higher percentage of default. This is being countered by changing some of the criteria for the loans to help protect the investor – for example, requiring higher credit scores. Even so, new or changed products continue to be developed to keep the money flowing.”
While riskier programs may be on the wane, many homeowners are finding it possible to achieve lower monthly payments through a longer-term loan. These include 40- and 50-year amortization loans with no payments due for the first year.
While the lending industry has taken a hit, most analysts and industry players agree the adjustment has been necessary and, in the long run, beneficial to the overall economy.
“When you don’t have the type of correction that we’re currently experiencing, that’s when bubbles grow and eventually burst,” said Medeiros.
The big picture remains rosy, noted Karras. “If you consider the historical numbers, looking at the prime rate from the early 1970s through 1973, it’s extremely similar to where we’ve been for the last year and a half,” he said. “The average mortgage rate at end of 1973 – with similar prime rates and a similar past two years – was 7.65 percent, and today it’s 6.5 percent. We’re in a much better position than history would have predicted.”
Current trends are expected to continue into 2007, with the Federal Reserve easing interest rates during the year. Medeiros, who is confident enough in the economy to organize a new bank on Cape Cod, sees an easing by the third quarter of this year.
“That will most likely spark another increase in mortgage demand,” he predicted.
The old mantra of location, location, location is apt, said Talerman. “It’s easier for us to be optimistic because of our geography – the Cape is a desirable part of the country, with a limited supply. Real estate continues to be a great long-term investment, and the added value is that it puts a roof over your head.”
Vickery is also optimistic about the coming year: “2007 looks like it’s going to be a great year. While most of the news reflects a bleak forecast, the door of opportunity is wide open to make the dream of homeownership for first-time buyers a reality and created the ‘sale of the century’ for second-home owners on Cape Cod.”
Originally published in the March/April 2007 issue of Cape Business.
Joy Jordan is managing editor of Cape Business magazine. She has worked in the technology and publishing industries and was chief copy editor for Cape Cod Community Newspapers. 
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