10 September 2014

Wall Street Journal

Instead of selling mortgages on the secondary market, large lenders are keeping them on their books and reaping the profits. That may lead to better terms for borrowers.

The secondary market for jumbo mortgages—in which banks bundle and sell their mortgages as consolidated debt to investors—is doing worse than a year ago. But that may be good for borrowers, at least for now.

Only 2.3% of all jumbo mortgages originated in the first half of 2014 have been securitized, according to Inside Mortgage Finance, an industry newsletter. That’s a drop in the bucket compared with the peak of 49.3% in 2005.

Now, instead of selling mortgages on the secondary market, large lenders are keeping them on their books and reaping the profits themselves. What’s more, lenders that don’t want to hold on to their mortgages are finding national and regional banks are eager to buy them, says Mathew Carson, a broker with First Capital Group in San Francisco.

In essence, one secondary market was replaced by another, says Guy Cecala, CEO and publisher of Inside Mortgage Finance. “The case could be made that borrowers are better off without a mortgage-backed securities program than they were before,” he says.

Lender enthusiasm for jumbos—loans that exceed $417,000 in most places and $625,500 in high-price areas—means that borrowers are sometimes offered lower interest rates than they’d get with a government-backed conventional loan, says Cameron Findlay, chief economist for Discover Home Loans. Because they can keep the loans in their portfolio, jumbo lenders may have more flexibility with qualification standards, so high-dollar borrowers may get slightly better terms on down-payment minimums and debt-to-income ratio requirements.

Still, underwriting standards are tighter than they were before the real-estate meltdown. So jumbos are seen as a safe investment from the lenders’ perspective, says Tom Wind, executive vice president of home lending at EverBank. The Jacksonville, Fla.-based national bank both holds jumbo mortgages and purchases them from smaller banks that don’t have sufficient dollar amounts in their balance sheets to retain all their loans, he adds.

“We like the return on the asset, and then the client relationship is an added benefit,” Mr. Wind says. In other words, EverBank can now offer other banking services to a wealthy borrower, he adds.

Low interest rates that banks pay on deposits have translated into cheap money that can be funneled into jumbos with attractive returns, Mr. Findlay says. Savings accounts pay average annual yields under 1%. By comparison, banks can earn an average 4.14% on a 30-year fixed-rate jumbo mortgage and 3.03% on a five-year, adjustable-rate jumbo mortgage, according to mortgage-information site HSH.com as of Sept. 5.

Nevertheless, a healthy secondary market will be necessary to sustain jumbo lending in the long run, especially as interest rates go up, the housing market fully recovers and the mortgage market grows to more normal dollar volume, Mr. Cecala says.

The jumbo market right now is much smaller than pre-recession, he adds. Jumbo mortgage dollar volume was just $103 billion in the first six months of 2014, compared with $332 billion in the first six months of 2003, the biggest mortgage lending year on record, according to Inside Mortgage Finance.

Redwood Trust Inc. currently is the largest in the jumbo-backed securities market. Other investors include Credit Suisse, J.P. Morgan Chase & Co. and PennyMac Mortgage Investment Trust.

Here are a few more considerations for jumbo borrowers:

• Tight credit qualifications will continue. Borrowers, especially those in heated housing markets like San Francisco, should consider getting their mortgage not just pre-approved but pre-underwritten by a lender to prevent a home-purchase deal from being lost due to documentation delays, Mr. Carson says.

• Fewer long-term options. If the secondary market continues to recede, borrowers may have fewer options for 30-year, fixed-rate mortgages. That’s because banks are less inclined to hold less lucrative long-term loans on their books, “If there wasn’t a secondary market, we wouldn’t do 30-year, fixed-rate mortgages, says Dameon Everhart, secondary marketing manager for First Century Bank, a national lender based in Gainesville, Ga.

• Tight rules may further suppress the secondary market.Strict Consumer Finance Protection Bureau regulations that took effect in early 2014 have hampered investor enthusiasm for securitized loans, says Keith Gumbinger, HSH vice president. In a letter to the U.S. Treasury Department, the National Association of Realtors, a real-estate trade group, suggested ways to bring more private capital back into the secondary market. One recommendation was for a government guarantee of jumbo mortgage securities.