Fed Survey Shows Improvement and Caution

Summary:

• Fed survey shows growing prime lending, but weak elsewhere
• Lenders cautious after implementation of new rules; more caution in jumbo and non-traditional space
• Consumer costs in general have risen due to compliance costs
• Lending would be tighter without temporary exemptions for GSE production
• CFPB should consider a permanent GSE exemption and compensating factors

The Federal Reserve released its Senior Loan Officer Opinion Survey (SLOOS) for the 2^nd quarter of 2014 on Monday.  The report covers lending patterns for prime, subprime, and non-traditional (jumbo) loans.  This quarter’s reports shows some positive movements in prime lending, but ominous signs about the new regulatory environment.

Respondents indicated a strong net improvement in willingness to lend to prime candidates.  As depicted below by the blue line below, when asked whether they were tightening or loosening standards, on net the field indicated 20% more were loosening than tightening, the first significant improvement since the housing decline in 2009.  Lending to non-traditional mortgages showed modest improvement, but subprime lending remained unchanged from its tight stance.  The improvement in lending for prime loans was led by large banks and likely reflects actions by lenders such as Wells Fargo to expand lending to lower FICO borrowers with the use of compensating factors.

Demand for loans showed a similar pattern with prime borrowers increasing, non-traditional interest modestly higher, while demand from subprime borrowers was neutral.   A survey by the New York Federal reserve from earlier this summer suggested that borrowers with lower credit scores expect to apply less often for mortgages over the remainder of 2014 and they expect to be rejected for those applications at a higher rate than borrowers with better credit scores.  The implication is that the sluggish response from non-prime borrowers could reflect the weak borrower expectations.

Also of interest in this quarter’s SLOOS is a set of questions related to the new rules that went into effect on January 10^th of this year and which govern all mortgage lending practices.  The new rules require lenders to verify a borrower’s ability to repay the mortgage (ATR) or face legal action.  A lender can earn a presumption of compliance with the ATR by fulfilling certain obligations that define the loans as a qualified mortgage.  There are two levels of QM loans, the safe harbor which grants more legal safety and a rebuttable presumption.

When asked to identify the extent to which the new ATR/QM rules impacted their likelihood of approving an application for a prime borrower with a FICO greater than or equal to 680, 32.9% of lenders indicated that their approval rate was “somewhat” lower than it would otherwise be and 2.9% indicated that it was “much” lower, while 1.4% indicated that it was “somewhat” higher.   The caution though was disproportionately more evident among small and mid-sized lenders, 47.1% of whom indicated a “somewhat” lower willingness to approve loans as depicted below.  This pattern was also true when lenders were asked about prime borrowers with credit scores below 680.

A separate survey released this week by Bankrate.com showed an 8.5% increase in lender origination fees from 2013 to 2014.  Respondents indicated the higher fees were a result of increases in staffing and compliance costs that resulted from the new rules.

Finally, the Fed survey asked lenders who indicated that their lending was “the same” under the new rules whether elimination of the GSE’s exemption to the 43% back-end DTI requirement would have impacted their outlook.   Of these respondents, 36% indicated that their policies would be “somewhat” tighter without the exemption while 18% indicated it would be “substantially” tighter.

With the new ATR/QM roughly six months behind us, it appears that lenders remain cautious about the new rules and are passing on compliance costs to the consumer.  However, the rules have helped to reduce some risks with lenders hesitant to make loans with risky product features and verifying a borrower’s ability to repay.  Still, it appears that there are some areas, including the 43% DTI, where the CFPB could improve liquidity by making this rule permanent for the GSEs and exploring the use of compensating factors for non-GSE loans with DTIs greater than 43%.