Mortgage earnings likely to sink to 2018 levels next year

Lower originations combined with continued margin contraction could drive next year’s nonbank mortgage lender profitability to levels last seen in 2018, Moody's said.

In two of the four quarters in 2018, mortgage lenders lost money on a per-loan basis, the Mortgage Bankers Association found. Last year, they had posted record profits due largely to abnormally high gain on sales margins.

Margin compression, however, took a toll on both bank and publicly-traded non bank lender results in the second quarter.

In 2018, approximately one-third of nonbank mortgage originators were unprofitable, Moody's estimated. That landscape could return in 2022.

"The spread between mortgage rates and mortgage-backed security yields, a driver of gain-on-sale margins, has reverted to its five-year average of 1.08% now that industry capacity has largely caught up with loan demand," Moody's said. "We expect industry competition to continue to increase over the remainder of this year and into 2022, likely driving gain-on-sale margins down further."

Declining interest rates in 2019 delayed the likely consolidation that would have occurred in the wake of those 2018 losses.

"With a number of nonbank mortgage companies going public recently, industry competition could be even greater this market cycle, leading to more, and more rapid, industry consolidation," the report continued. "The largest and financially stronger companies will likely be the primary beneficiaries of any consolidation that occurs."

Fortunately, capitalization among the 13 nonbank mortgage companies that Moody's rates should improve in the second half of 2021 and into 2022, following a slight decline to 13.7% from 14% at the end of 2020. Moody's measures capitalization as the ratio of tangible common equity to tangible managed assets.

(Moody's rates Finance of America, Home Point, loanDepot, Mr. Cooper, New Residential, Ocwen/PHH, PennyMac Mortgage Trust, PennyMac Financial Services, Rocket and United Wholesale Mortgage, along with privately-held Freedom, Planet Home and Provident)

Those companies should benefit from smaller balance sheets as fewer originations will reduce the loans held-for-sale, along with a likely decline in delinquent Ginnie Mae mortgages that needed to be repurchased and put back on the books.

"However, some of this benefit may be somewhat offset by recent changes by Fannie Mae and Freddie Mac that limit the volume of loans that originators, particularly larger originators, can sell directly to the two government-sponsored enterprises," and those may stay on the balance sheet longer as a result, Moody's said.

In addition, "with quite a few new publicly listed companies, there is a risk that some will aggressively distribute capital through payouts in excess of earnings, resulting in smaller capital buffers to absorb unexpected losses,” the report stated.