Uncovering Hidden Revenue Through Best Execution
The mortgage markets are tough and that won’t change any time soon. In the meantime, lenders continue to clamor for more revenue. No problem. You can find it by simply looking at your existing volume of loans.
Let’s start by demystifying the concept of Best Execution. What is it? Best Execution applies to like products and identical underwriting features. For instance, take a conventional loan underwritten via DU. Your investor options (if approved as a Seller / Servicer) include Fannie Mae MBS or whole loan, as well as the option of selling this loan on a service-released basis to Correspondent Aggregators.
Once you have defined the loan product features, a Best Execution platform looks at all the pricing components, fees, the value of the Mortgage Servicing Rights (MSR) and if retaining servicing, the servicing requirements – to make the best decision for your firm. It results in the best “NET” price, income stream, and can address how your firm mitigates risk. Yes, that’s right – mitigates risk. Whether you retain your servicing or sell the MSR to a Correspondent Aggregator the life of loan risk remains and is based on other contractual provisions that are in the Correspondent Aggregator’s legal agreement. Often the drive to sell a loan quickly, overlooks critical considerations of the future contractual obligations. Can you say, seller beware?
This form of discipline will then equip your Capital Markets team to being able to look at investor options in a different light. While at a lender when I was running the day-to-day of our Capital Markets, I recall the continuous sales pitch that always came from various investors. The same song of, ‘How great their price is.’ But with that best price, came with significant amounts of homework for my team. We had to drilldown into if the loan program the investor offered would address product gaps, increases in production, compared credit overlays, other pricing adjustments, underwriting guidelines and the hidden component of fees that your firm is now liable for. Was the price, truly the best price?
Another part of this decision-making process is an understanding of the investor servicing-retained servicing requirements. Without a “marriage” between the Capital Markets team and the Loan Servicing team, in how you analyze Best Execution, the results may actually be incorrect. This is where your team’s knowledge set may need to sharpen, and where third-party consultants can often bring significant value. A quick consulting engagement to help you buildout your team’s knowledge and processes, will be inconsequential to the significant benefits and ROI your firm will receive. So, let’s set that consideration aside.
When I talk about the “marriage” that should exist between Capital Markets and Loan Servicing whether it be Ginnie Mae, Fannie Mae, or Freddie Mac the investor remittance and life of loan servicing requirements are different and impacts your firms risk tolerance and future projected cash flows when retaining the MSR. The Capital Markets function must take this into consideration.
An example is when making choices that require an Actual/Actual Remittance structure over a Scheduled/Scheduled Remittance structure, and how does this impact your firms risk tolerance decisions. In short, you can run your best execution modeling (in this example Fannie Mae) under whole loan Actual/Actual Remittance which means your firm only remits principal and interest payments that are received from the mortgagor. Or, through best execution modeling, your firm can opt to issue a Mortgage-Backed Security (MBS) which requires a Scheduled/Scheduled remittance cycle where if the loan is delinquent your firm is required to advance the principal and interest payment on the loan that is due the investor.
The main message here is that when you blend the knowledge between Capital Markets, Loan Servicing, and your firms desired Risk Tolerance you have then developed a “no cost” internal investment into how you can improve upon Best Execution and realize increased revenues. It doesn’t mean that you will continue to focus on one method of thinking, that is not the key driver. The driver is that you would have now built out your knowledge to know how to make the best revenue decisions for your firm.
When working with Clients, too often, folks make critical decision without the appropriate insights and end up leaving money on the table. Remember that other saying, ‘perception is reality’? The first step is recognizing that something needs to change, and then being open to admitting that your firm could benefit by enhancing the team’s knowledge base in relation to Best Execution – then – enjoying more fruits of your labor.
Too often I find that just one small change in a lenders business model would: 1) Enhance Best Execution Options 2) Increase the firm’s income stream 3) Insulate the firm for future capital / cash flow needs, and 4) Dramatically increase the internal knowledge of the Executive team so Secondary is no longer considered a foreign language. The benefits of this alone will go beyond ONE change.
Luana Slettedahl is a Principal Consultant with BlackFin Group in the Mortgage Strategy Practice. Luana brings forty years of diversified experience in Capital Markets, Mortgage Servicing Rights, GSE and Ginnie Mae relationship management and Seller / Servicer requirements. In conjunction with her understanding how to successfully do business with the GSE’s and Ginnie Mae, has made her a significant asset to her clients. For more information contact firstname.lastname@example.org