Storm clouds on the horizon for the mortgage industry

Residential mortgage industry analysts and executives continue to see choppy waters ahead. The banking crisis is still unfolding, impacting the mortgage-backed securities (MBS) space, reducing jumbo loan offerings, and putting pressure on commercial real estate companies. 

Even if the U.S. debt limit impasse is solved, the U.S. can face a downgrade to its long-term debt, with consequences for the overall economy. In addition, the mortgage industry still has overcapacity, which means the landscape remains challenging for originators. 

Executives discussed these and other topics on Monday during the Mortgage Bankers Association (MBA) Secondary and Capital Markets Conference & Expo 2023 in New York. 

Is the banking crisis over?

Bose George, managing director at Keefe, Bruyette & Woods, said the banking crisis will still have meaningful impacts on the mortgage industry.

In the agency MBS space, where banks have roughly 30% market share, spreads have “widened a little further” and will continue “structurally” going forward.

“It seems like banks will be less active in the space,” George said. 

Banks will also reduce their appetite for jumbo loans. They usually offer jumbo loans at lower rates to attract borrowers for other products. But now deposits are more scarce, George said.

And what does it mean for the rest of the market? “The least it means is higher rates.”

George also said the banking crisis impacts commercial real estate, a market already under pressure due to the hybrid work and work-from-home trends.

“Now, with what’s happening with the banks, certainly, there will be less capital in the space. Probably it exacerbates the downturn in commercial real estate.”

Overall, the managing director said he’s assuming the banks’ role in the mortgage market will decline, which seems “inevitable.” In turn, there will be a growing role for non-banks. Over the next few years, George also sees a significant need for capital, including through equity.

What are the impacts of the debt limit impasse?

Isaac Boltansky, director of policy research at BTIG, said he is “concerned, as of this Monday morning, where we are” on the debt ceiling discussions.

According to the executive, there’s a “narrow pathway” to the due date of June 1. That’s the date the U.S. Department of the Treasury communicated it will potentially no longer be able to satisfy its obligations if Congress has not acted to raise or suspend the debt limit. 

Meanwhile, the debt limit impasse between the Republican-controlled House of Representatives and President Joe Biden’s White House continues to cause uncertainties within the market.

According to Boltansky, it’s relevant to remember what happened in 2011, when the S&P downgraded the U.S. long-term credit rating because of an “unsustainable fiscal” path and a “broken political system.”

“We still got both of those. And then, on top of that, what’s different from 2011? That our total debt has gone from $14 trillion to $30 trillion,” Boltansky said.

The executive mentioned that any political deal on the debt limit doesn’t solve the problem. “We’re starting with the real drivers of long-term debt not even being discussed.”

Is a recession on the way?

Mike Fratantoni, chief economist and senior vice president of research and industry technology at MBA, said the “financial conditions are tightening,” reinforcing the forecast for a recession in the U.S. this year. 

“When we met in October for our annual convention down in Nashville, we kind of forecast that in 2023 the U.S. was going to be in a recession,” Frantatoni said. “Given what we just went through, we’re holding on to that forecast.”

However, according to Fratantioni, the recession will probably be “a little bit later” and “deeper,” as the credit tightening might put more pressure to the U.S. economy.

According to Fratantoni, inflation is still twice the Federal Reserves (Fed) target at around 4.5%, and the jobs market is still strong. It’s difficult to “try to tease out a consistent message from the Fed officials,” but they “are not going to be in any hurry to drop rates now.”

Amid the debt ceiling impasse, the MBA’s baseline scenario does not include the U.S. government defaulting on its debt. However, the “biggest risk is downgrading.”

Fratantoni said mortgage rates peaked in the third quarter of last year and are volatile right now. Refis “left the center of the picture,” and purchases are running 30% to 35% behind where we were in terms of units in 2022. 

“Given the decline in volume, particularly the decline in units, we thought we need to take about 30% of capacity out of the industry. We’re even sort of 19% to 20% down so far. Still, a very challenging environment,” Frantantoni said. “The good news continues to be that people are paying on their mortgages.”

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