Mortgage firms’ antidote to rising rates | Mint

Mortgage firms’ antidote to rising rates

Photo: iStock
Photo: iStock


  • Even as home-loan refinancing volumes drop, the value of handling homeowners’ monthly mortgage payments is conversely rising

Mortgage companies have a not-so-secret weapon as they deal with rising interest rates and decreasing volumes: Mortgage-servicing rights.

When a typical mortgage is originated, alongside that mortgage is the right to collect monthly payments from the borrower. The servicer that does that can earn a fee for taking in principal, interest, tax and insurance payments, and holding that money until it is due to investors, governments, insurers and so on. As was the case during much of the pandemic, if mortgage rates are plunging, and people are rapidly paying off their mortgages via refinancing, these rights become less valuable because they are much shorter-lived. Low interest rates also mean that any money being held in escrow by the servicer isn’t earning much in interest.

But this is a new world of rising mortgage rates and a shrinking refinance market. Mortgages originated over the past couple of years at historically low rates might not be prepaid for quite some time. And with short-term interest rates rising, the value of being able to earn interest on that float of escrow money is too. Servicing rights are now worth a lot more.

These rights can rise in value and generate income, and they also can be sold to raise cash. Gain-on-sale margins generated by selling mortgages into the securitization market are being squeezed by competition amid falling volume. Selling a noncash component of that gain-on-sale—servicing rights—can help originators stay cash-flow positive, notes KBW analyst Bose George. The value of agency MSR transfers as measured by unpaid principal balances jumped nearly 70% from 2020 to 2021, according to Inside Mortgage Finance.

Many mortgage firms that “ordinarily did not retain servicing in their history began to retain in the early part of the pandemic, when MSRs were worth little," says Tom Piercy, managing director at Incenter Mortgage Advisors, which provides trading and advisory services for MSRs. Firms did that “with the intent to sell when values would begin to rise, which they have now done," he said.

For some mortgage firms with relatively large servicing businesses, rising MSR values can be enough to offset what happens with originations. New Residential Investment Corp., a mortgage real-estate investment trust, estimated in February that overall, a 1 percentage point increase in 10-year Treasury yields would increase its core annual earnings by about $50 million. While many mortgage stocks are down by double digits this year, New Residential is up by about 1%.

Shares of Mr. Cooper Group Inc., one of the largest home-loan servicers, are up about 12% so far this year. Mr. Cooper is among the firms that aims to buy MSRs being sold by other originators, noting in February that “because there are relatively few firms with the capital and operational capacity to take on portfolios, the pricing is excellent." The company also works with investors that purchase MSRs but don’t have servicing capabilities themselves.

Investors also should be thinking about the impact of servicing on origination of mortgages. A big source of refinance demand in a higher-rate environment might be homeowners who want to tap into their rising home equity via a cash-out refi. A servicing relationship can be a way to pitch such options and recapture refinancing customers. For example Rocket, which has said it looks to strategically acquire MSRs, noted that its recent purchase of personal-finance firm Truebill can help it deepen its relationship with clients it services, the company said.

Perhaps investors in this volatile market aren’t looking at longer-term opportunities right now. The mortgage business is rarely simple, though, and investors are often rewarded for being willing to dig into the details.

This story has been published from a wire agency feed without modifications to the text

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