Exits by major financial institutions like MetLife, Wells Fargo, and Bank of America have been hard on the reverse mortgage industry from a public perception perspective, but the loss of liquidity as a result of those exits could also present other issues.
Without these “mega banks” participating in the program, there is limited capacity for significant growth in the marketplace today. So instead of people talking about how the industry gets back to 100,000 units per year, maybe we should be talking about how we get the capacity to see such volumes again. To understand where I’m coming from, let’s take a look at where the industry stands right now.
As of today, the industry is being supported by a small handful of Ginnie Mae issuers, which is the only secondary market outlet available for reverse mortgages. There are 18 approved Ginnie Mae HMBS issuers, only about four of which are actively issuing. The majority of the volume is coming from two companies: Urban Financial and Reverse Mortgage Solutions, which are together issuing more than half of an average of $700 million of HMBS each month.
Urban is owned by Knight Capital Group, a Wall Street player that suffered a $440 million trading loss after a computer glitch in its trading system almost brought the company under in early August.
Having a company the size of Knight backing Urban is critical to the industry when the company is funding about $150 million of Ginnie HMBS securities each month. While Knight was saved by financial backing from its peers, the thought of losing the financial wherewithal shows an industry that could find itself with a problem: who can step in and fill those shoes if one of the major issuers went under for some random reason?
The remaining issuers could take on some additional capacity, but there is no way the industry could absorb a monthly $125 million hit to liquidity without additional capital coming into the currently approved Issuers. Earlier this week I spoke with one investment banker who said that while the industry has more GNMA-approved issuers, they’re currently too small to really grow the HMBS program.
“We have several $5-10 million [net worth] issuers, but what the HMBS program needs are additional $25-50 million (net worth) issuers,” he said. Ten million dollars is a lot of money to anyone, but the problem is that issuing GNMA HMBS is a capital-intensive business.
Ginnie Mae requires that issuers have a minimum net worth of $5 million plus an additional 1% of the aggregate amount of the outstanding remaining principal balance and any commitment authority available to issue securities. Issuers must also have liquid assets of 20% of their net worth requirements.
The agency calculates your commitment authority based on your audited HUD-approved net worth. If a company has $10 million in net worth, it will be limited to $1 billion in HMBS during the fiscal year. If the company wishes to issue in year two, the initial capital of $10 million will be disallowed as it must be used to support the $1 billion currently being serviced. The commitment authority for year two will be based on the increase in net worth over the initial first year $10 million.
From a liquid assets standpoint, your requirement would go from $2 million to over $4 million by the end of calendar year. The example above just goes to show that in order to compete as an issuer, you need a substantial balance sheet. While the execution for the securities is good, there is plenty of risk involved in the HMBS product that comes along with it. While the larger issuers understand that risk, new entrants may not.
If the industry were to lose one major GNMA issuer, several sources tell me it will be difficult to make up the difference right away. If that happens, what would become of all the closed-loan sellers who don’t have an end investor in the interim? It’s a scary thought to think that $100 million could be sitting on warehouse lines for another 30 days or so until there is more capacity in the market. Back during the days when MetLife and Wells Fargo were around, something like this would probably never happen.
The industry got some of the best news in the last couple of years when Walter Investment Management Corp. (NYSE: WAC) announced it was acquiring Reverse Mortgage Solutions. WAC has a balance sheet with $82 billion of loans and has the capacity to continue to grow RMS’ business as well as the industry overall.
More good news has come in the form of new HMBS issuers being approved, including Security One Lending and Silvergate Bank, and there are some big players who have been sitting on the sidelines for quite some time with rumors of more capital coming into existing Issuers. The big question remains though, when will they step up and provide more liquidity to the market? When they need to is what I’m being told.
From a liquidity standpoint, getting WAC into the business is a great start. But the reality is that more is needed if we’re going to get back to 100,000 units a year. So while the industry might miss the big brands of MetLife, Wells Fargo, or Bank of America… maybe it should miss something else: their big balance sheets.