Why Mortgage Profitability Can’t Be Managed In Silos

[00:04] Fergal McAlinden: MPA Talk, the American Mortgage Professional Podcast. 

[00:11] Fergal McAlinden: Hello again, and thanks for joining us on another edition of MPA Talk. 

[00:15] Fergal McAlinden: I'm Fergal McAlinden, Managing Editor here at Mortgage Professional America. 

[00:19] Fergal McAlinden: And today we'll be talking all things origination and servicing. 

[00:22] Fergal McAlinden: We're joined by Mark Garland, Managing Director of MSR Pricing and Analytics at Cytus AMC, and Rob Kessel, founder and lead instructor at Panoramic Capital Academy, to hear why they say mortgage companies managing origination, capital markets, and servicing in a single connected enterprise may be better positioned to navigate margin pressure. 

[00:41] Fergal McAlinden: Mark leads operations at Cytus AMC's Residential Mortgage Servicing Rights Analytics team, which supports the company's MSR valuation and transaction advisory service. 

[00:51] Fergal McAlinden: And Rob is a mortgage capital markets expert and former CEO of Compass Analytics with over 30 years of industry leadership. 

[00:58] Fergal McAlinden: Mark and Rob, it is great to have you both with us today. How are things? 

[01:01] Rob Kessel: These are great. Happy to be here. 

[01:03] Mark Garland: Yeah, thank you for the opportunity. 

[01:05] Fergal McAlinden: It's great to have you both with us and looking forward to the conversation. 

[01:08] Fergal McAlinden: Mark, maybe let's start with you. Maybe we can get a bit of a background. 

[01:12] Fergal McAlinden: First of all, how often do you think that lenders are actually managing origination, capital markets, and servicing together as one business? 

[01:18] Fergal McAlinden: And how can it offer an advantage for them? 

[01:20] Mark Garland: You know, I think this has been something a long time coming. 

[01:24] Mark Garland: When Rob started a business that he and I worked together on in the form of Compass Analytics, he had evolved enterprise models years and years ago, decades ago. 

[01:34] Mark Garland: And I think the C-suite always thought about this, but I also think that in order for people to, to manage the asset with really the very best technology, we've started taking these various components and putting together probably way, way more in the last 10 years than we ever have. 

[01:52] Mark Garland: And I think today is a day where almost The vast majority, whether you're small or large, a bank or an independent mortgage company, I think it has become sort of main, main, main street to think about the asset in its various pieces and how they all interconnect. 

[02:10] Fergal McAlinden: Yeah, it's interesting that you say that because servicing, rightly or wrongly, might, might often have been seen as a back office function. 

[02:16] Fergal McAlinden: But Rob, is that a problem for you, or do you think that it might cause lenders to think about it that way? 

[02:22] Rob Kessel: You know, I would zoom out a little bit because when we think about the lending community, we've got the people who are already servicing, we've got the people who service and still sell on a release basis, and then we have maybe the middle tier and lower tier that are contemplating servicing. 

[02:40] Rob Kessel: And so it's like, it's a natural evolution in our industry for smaller lenders to kind of grow into origination and then ultimately to figure out what it takes to service. 

[02:51] Rob Kessel: And why it's so important and strategic to service. And that journey is non-trivial. 

[02:57] Rob Kessel: Servicing is a very capital-intensive asset. It requires expertise. 

[03:02] Rob Kessel: Where most of us, Mark and I certainly among two of many, would advise lenders that they ultimately need to be is a full-service shop that has a very competent capital markets group and competent servicing capabilities so that they have the option to service when the market's right for it, when their capital levels are right for it. 

[03:26] Rob Kessel: And different market environments serve up completely different environments that make one or the other right or wrong, as the case may be. 

[03:34] Rob Kessel: It's great if you've been there and you've evolved and you have servicing right now. 

[03:39] Rob Kessel: There's certain times in the market where it's just really hard. 

[03:42] Rob Kessel: The headwinds are against you starting a servicing. 

[03:45] Rob Kessel: It's as much as you wish you had a servicing department and capability, maybe the market just doesn't support it at that time. 

[03:52] Rob Kessel: That's probably pretty similar to what we're, you know, in right now for smaller lenders. 

[03:57] Rob Kessel: But so I, you know, I'll just stop there and I know Mark will have more to add to this, but you know, it is, it's very dynamic. 

[04:04] Rob Kessel: It depends upon where you're at in the food chain in the industry, but certainly super strategic for those who have. 

[04:11] Rob Kessel: For sure. 

[04:12] Fergal McAlinden: And Mark, maybe you can weigh in on, especially when origination margins are tight, do you see opportunity through the value in a servicing portfolio and can that give a lender more options? 

[04:22] Mark Garland: Yeah, very much so. 

[04:23] Mark Garland: And, and I think Rob did a great job of sort of encapsulizing what, what we know today. 

[04:29] Mark Garland: I'd argue whether a small mortgage banker decides to hold the asset, which is a bit of an evolutionary step for them, or whether they choose to sell it off, it still weighs in on the math, right? 

[04:39] Mark Garland: It still weighs in on the equation. 

[04:41] Mark Garland: You know, we, we often say in, in a little glib fashion that the, the biggest catalyst for capitalized servicing Recording the servicing asset at a higher and higher value is what you need from that asset, right? 

[04:56] Mark Garland: And then in 2020 and 2021, when rates were low and volumes were huge and margins were big, we literally couldn't get people to return our call talking about what they should capitalize the new servicing asset for. 

[05:10] Mark Garland: Today, those phone calls are almost weekly because the more I can add to the asset, the more profitability is inherent. 

[05:18] Mark Garland: in the equation, which means the more production I get. 

[05:21] Mark Garland: And I'm a big believer that the C-suite and the executive suite in almost every mortgage bank is made up of people who grew up on the production side. 

[05:30] Mark Garland: So the capitalization of the asset is directly related to the ability to frankly offer better rates out to the consumer and produce more production. 

[05:41] Fergal McAlinden: It's interesting that you mentioned rates because one big trend that we've been seeing over the past few weeks and months is that the interest rates have been on a pretty sharp rise. 

[05:50] Fergal McAlinden: Something that tends to hurt origination, but maybe has a different effect on servicing. 

[05:55] Fergal McAlinden: How do you think lenders should be using that relationship to their advantage? 

[05:57] Fergal McAlinden: I'll ask you both to weigh in on that one. 

[06:00] Mark Garland: Yeah, we, it's, we have a hard time thinking of just how high rates are today. 

[06:05] Mark Garland: And I'll make this quick. And Rod, a lot of interesting comment on this. 

[06:10] Mark Garland: You know, I will tell you today that mortgage rates are certainly higher than we ever expected to see them. 

[06:15] Mark Garland: Even just as much as a few months ago. 

[06:18] Mark Garland: The, the reality of it all is when rates get higher, pressure comes down in the form of a smaller amount of production coming through the system, and mortgage bankers have to be more on their game. 

[06:30] Mark Garland: Now, some people would argue maybe this is the catalyst for vetting, or frankly reducing the number of originators, which hasn't gone down as much as we would've expected in this rate environment. 

[06:41] Mark Garland: But clearly the rate environment, which tends to be good for servicing, has been really, really brutal on the production side. 

[06:49] Rob Kessel: Yeah. And there's some competing interests here. 

[06:52] Rob Kessel: Like, so when you think about how tough the industry is right now for production and you think about as a lender, well, how do I increase production? 

[07:00] Rob Kessel: You know, it's through recruiting new producers, branches, and having better pricing. 

[07:06] Rob Kessel: And this is where servicing, you know, helps both, right? 

[07:09] Rob Kessel: Or can help both when you're out as a lender recruiting, branch managers and successful production folks, they may be used to working with lenders that, you know, know that when their borrowers close, that they're going to stay with a lender. 

[07:23] Rob Kessel: And that's an important thing to them. 

[07:25] Rob Kessel: And, you know, particularly if they're pretty good at recapturing that loan, you know, when rates fall again, you know, that's another transaction that they'd hope to capture from that borrower at that same lender. 

[07:36] Rob Kessel: And that's an important thing. 

[07:37] Rob Kessel: You know, it's an important capability under Athlete Service that helps them recruit new production. 

[07:43] Rob Kessel: It also, when you A servicing capability, it opens different options of execution for you. 

[07:49] Rob Kessel: You can keep it. 

[07:50] Rob Kessel: In some cases, it opens up some different executions, different ways to sell your loans, co-issue, which is a particularly attractive execution right now, selling to the agencies and simultaneously selling the servicing off to others. 

[08:03] Rob Kessel: But you are able to do that because you have the servicing capability yourself. 

[08:08] Rob Kessel: So these things help lenders be more competitive. 

[08:11] Rob Kessel: Now, the competing interest is that in tough markets like this, when production is lower, cash is king and keeping servicing versus selling it when you close a loan is a cash-intensive thing. 

[08:26] Rob Kessel: And so lenders that are in tough market environments trying to keep as much cash as they can, operating cash, et cetera, it's often a tough decision to forego the cash that they could get by selling that servicing at close versus keeping that servicing asset on the books. 

[08:45] Rob Kessel: So it's not, it's not, it's not an easy job for these lenders and capital markets folks, or I would say to folks like Mark who advise them. 

[08:51] Fergal McAlinden: Absolutely. 

[08:54] Fergal McAlinden: Well, I was going to ask Rob what you'd see as the kind of main separating factor between lenders who manage their business as a whole versus those who are still working inside those. 

[09:02] Fergal McAlinden: Is that a data issue? Is it a culture issue? Or what's the, the main separation between them? 

[09:07] Rob Kessel: I think it's a, it's a knowledge issue, honestly, and it's a capital issue. 

[09:13] Rob Kessel: Like, there's a lot to learn in our business and how it all works together. 

[09:18] Rob Kessel: And, you know, Mark and I always joke, by the time we're 70, we hope to be pretty good at this business. 

[09:24] Rob Kessel: The knowledge piece is just, you know, understanding what servicing does, how it flows through to recruitment, production, how it can position you for times like this when rates are up and when production income is down, that maybe servicing assets worth more and you're You're realizing the servicing payment stream that you're getting monthly. 

[09:48] Rob Kessel: But to get to that point means having succeeded and grown your business and grown your capital to where you had the knowledge, the expertise and staff, and the capital to, at one point in the trajectory, to becoming a servicer. 

[10:05] Rob Kessel: And so again, it's that bifurcation of the market, those who are currently, those who aren't. 

[10:11] Rob Kessel: And, but I mean, I think the big separators are the knowledge, The knowledge of the people behind it, the capital structure. 

[10:18] Fergal McAlinden: Okay, interesting. 

[10:19] Fergal McAlinden: Mark, does a strong servicing portfolio change what a lender can afford to do in production, especially now with— we know gain-on-sale revenue is under pressure for quite a while and things like that. 

[10:29] Fergal McAlinden: Does that strong servicing picture kind of change the outlook for those lenders? 

[10:33] Mark Garland: Yeah, it's, it's, it's an excellent question, and, and I think it really does. 

[10:38] Mark Garland: It's gotten very, very difficult. 

[10:40] Mark Garland: It's always, it's always been a fiercely competitive business when, when rates are high or low. 

[10:44] Mark Garland: It's always fiercely competitive. 

[10:46] Mark Garland: But, but we're watching the biggest shops in the country being very aggressive in how they're capitalizing mortgage servicing, which gives them a leg up on the middle market. 

[10:56] Mark Garland: In many cases, that's forced players in the middle market to go where the competition isn't quite as fierce. 

[11:02] Mark Garland: And so we'll often see people going into down payment assistance programs, lower FICO Ginnie Mae product. 

[11:09] Mark Garland: You know, people will have to go where they can originate, or they'll simply accept a lower origination volume that they still can find some degree of profitability. 

[11:19] Mark Garland: It's a really difficult time, but, you know, candidly, it's, it's been a difficult time since the fall of '22. 

[11:25] Mark Garland: And so when we first found those 6% interest rates, whether we're at a 6 or a 7 or 7.5, which is close to where we are today, you know, the competition has been fierce for a long time. 

[11:37] Mark Garland: And mortgage bankers have held on incredibly. 

[11:40] Mark Garland: Yeah, I'm shocked and I'm pleased that they've been able to hold on. I hope they continue to hold on. 

[11:45] Fergal McAlinden: Yeah, we certainly have seen that rate volatility continue over the past few years, but the resilience, as you say, of the, of the industry and of mortgage bankers is, is really obvious. 

[11:54] Fergal McAlinden: I'm wondering, Mark, about any kind of common mistakes that you might see in how lenders value their servicing assets. 

[11:59] Fergal McAlinden: You have a good insight into this because of your work with clients on MSR pricing. 

[12:03] Fergal McAlinden: Any kind of common mistakes that you see often? 

[12:07] Mark Garland: Yeah, you know, at 30,000 feet, so the servicing itself is, is a pretty complex equation. 

[12:13] Mark Garland: You know, what guys like Rob and I know who've been in the business for decades is a single servicing write is about 10,000 calculations, right? 

[12:21] Mark Garland: So now multiply that times hundreds of thousands or millions of the top shops, and it just kind of gives you the idea of computational power. 

[12:29] Mark Garland: All those are great, but that also gives you lots of opportunities for mistakes. 

[12:33] Mark Garland: I think the biggest mistake people make isn't a technical one, but a judgment-based one. 

[12:39] Mark Garland: Which is they want to compete with the biggest shops. 

[12:42] Mark Garland: And so they don't necessarily know the math behind those biggest shops, but they're going to want to be competitive and will ultimately mirror some of the highest pricing in the business. 

[12:52] Mark Garland: The dilemma with capitalizing servicing so strongly is it puts pressure on that asset to perform. 

[12:59] Mark Garland: You know, will you find yourself writing it down 6 months or a year later? 

[13:03] Mark Garland: Will you find options closed to you? Like, I can't sell that asset now. 

[13:07] Mark Garland: Because I've written it up so competitively that it's no longer at the market execution level. 

[13:13] Mark Garland: So I think the biggest one is trying to keep up with the proverbial Joneses. 

[13:17] Mark Garland: How do I, how do I compete with the AmeriHomes and the PennyMacs and the UWMs and the Rockets? 

[13:25] Mark Garland: How do I compete with the strongest producers in the country to get product in the door? 

[13:30] Fergal McAlinden: Okay, great stuff. Rob, how about for you? 

[13:32] Fergal McAlinden: Anything in today's market that you're seeing, any differences between a lender that's managing this well Compared with one that is maybe struggling at the moment? 

[13:42] Rob Kessel: You know, I think to just to double-click on what Mark said, I think, you know, one component valuation that he mentioned is recapture assumptions that, and, you know, basically the idea is that, hey, you know, when this loan refinances, I'm not really losing it, I'm keeping it. 

[14:01] Rob Kessel: I'm going to make some extra transaction income in the process. 

[14:05] Rob Kessel: So therefore I can afford to book it at a higher value. 

[14:08] Rob Kessel: That to me seems to be somewhat of the Achilles heel many servicers at this point, as far as kind of what some of those assumptions are when you dig into what it takes to be effective at recapture. 

[14:20] Rob Kessel: You know, the industry, as much as we've spent so much money over the last 2 decades on efficiency, still is amazingly labor-intensive and closely balanced even refinances. 

[14:33] Rob Kessel: And so, you know, probably one of your previous questions, like what can lenders do or what are best practices? 

[14:39] Rob Kessel: I think working through different scenarios About what what like rate events actually mean. 

[14:46] Rob Kessel: Like we call this you know the enterprise rate shock. 

[14:49] Rob Kessel: You know our guys' business, but it's really looking at what happens to production rates drop. 

[14:56] Rob Kessel: What happens to your recapture possibility? 

[14:58] Rob Kessel: Can you really process five times, twenty times as many loans as you currently are? 

[15:03] Rob Kessel: How long does it take you to ramp up to that? Can you is what is the actual write-up of the MSR? 

[15:10] Rob Kessel: Like Mark's group produces this all day long. 

[15:13] Rob Kessel: But you know there's the the asymmetry of how much you write an MSR asset up versus how much you might have to write it down. 

[15:20] Rob Kessel: And looking across the origination platform and the servicing platform and bringing those together in different scenarios, that's something that I think that, you know, some of the best performing lender servicers do is they understand what some of those different scenarios look like and make decisions ahead of time all the way back to how much do I value recapture? 

[15:42] Rob Kessel: And again, in this kind of a market, when you can service, you are not obligated to service. 

[15:49] Rob Kessel: Somebody out there might just have a much stronger bid and/or operations to support that. 

[15:55] Rob Kessel: And so I'm a little bit further up the chain from the end process that Mark's in. 

[16:00] Rob Kessel: So I spend a lot of time helping clients figure out what's real for their value versus what the rest of the market's actually paying. 

[16:08] Fergal McAlinden: Sure. Well, you've given us some great insights today, both of you. 

[16:11] Fergal McAlinden: I want to maybe just close on this question. 

[16:14] Fergal McAlinden: A lot of great insights and guidance for executives, for those who are prepared to start thinking about their business a little bit more holistically and implementing some of the measures that you've suggested. 

[16:24] Fergal McAlinden: Where should they actually begin? Maybe, Rob, we'll start with you on this one. 

[16:27] Rob Kessel: Well, I'm not going to promote the education program I put together to help lenders do that exact thing. 

[16:33] Rob Kessel: But I mean, it is— it's working with groups like Mark. It is a big investment in time and knowledge. 

[16:39] Rob Kessel: It's critical to your longstanding success. 

[16:41] Rob Kessel: I've, you know, many clients that were around before the Great Recession through COVID that were the happiest campers alive that they started servicing before those events. 

[16:50] Rob Kessel: And it just takes time and capital to do it. 

[16:53] Rob Kessel: But it's, you know, it's working with firms like Mark's to understand all the things that go into what it takes to retain servicing. 

[16:59] Rob Kessel: It's working with secondary advisors out there to make sure you execute and get every single penny, how that translates back to recruiting and keeping production. 

[17:08] Rob Kessel: Those are all the things that I think make the biggest difference. 

[17:11] Fergal McAlinden: Okay. Thanks, Rob. Mark, last word to you on this one. 

[17:13] Mark Garland: Yeah, thank you. And thank you for the setup, Rob. 

[17:17] Mark Garland: I think, you know, it's really important to know the truth, to know the truth of your own economics, to know the truth of the industry. 

[17:24] Mark Garland: I think it becomes really vital to look it right in the eye and still make these business decisions. 

[17:31] Mark Garland: You know, in, in our business, we say a lot to our clients, you know, we're not here to tell people what to do. 

[17:38] Mark Garland: We're here to educate them of where things are. 

[17:40] Mark Garland: So I think what becomes really important is every business, every executive team are going to make their own— their minds up of where they feel like they need to be to survive. 

[17:49] Mark Garland: What's really important is never lose sight of the facts. 

[17:52] Fergal McAlinden: Well, look, I think that is a perfect spot for us to wrap things up today. 

[17:56] Fergal McAlinden: I want to thank you both again for joining us. 

[17:58] Fergal McAlinden: Some really great insights there, and we look forward to having you on again soon. 

[18:02] Mark Garland: Thank you very much for your time. Appreciate it. All right. 

[18:04] Fergal McAlinden: Well, that just about does it for today's edition of MPA Talk. 

[18:07] Fergal McAlinden: My thanks once again to Mark and Rob for joining us. 

[18:10] Fergal McAlinden: Thanks to you for listening, and we'll see you next time. MPA Talk. 

[18:17] Fergal McAlinden: You can listen to the latest episodes on Apple, Spotify, Amazon, and all major listening channels. 

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