Non-bank lenders have overtaken US banks to grab a record slice of government-backed mortgages, after regulatory curbs on risk-taking and billions of dollars in fines forced mainstream providers to retreat from the $9.8 trillion US home loan market.
So-called shadow banks such as Quicken Loans, PHH and loanDepot.com accounted for 53 per cent of government-backed mortgages originated in April – almost double their share in April 2013 – causing alarm among regulators in Washington.
The non-banks' increased share of home loans comes at time when big lenders such as Wells Fargo, Bank of America and JPMorgan are pulling back, according to a study by two academics at Harvard's Kennedy School. The banks say they are reacting to tighter capital requirements and heavy penalties for mis-selling imposed by financial watchdogs after the 2008 crisis.
Slipping standards
Shadow banks perform banklike functions such as lending but are subject to lighter supervision because they are funded by professional investors rather than retail depositors protected by government insurance schemes.
However, the Department of Justice sued Quicken, the biggest non-bank lender, in April, claiming that it knowingly broke rules when making loans backed by the Federal Housing Administration (HFA). Then in May, Fannie Mae and Freddie Mac, the government-controlled mortgage buyers, tightened standards on non-banks servicing mortgages.
The shadow banks' rise is one of the "unforeseen consequences" of five years of increasingly tough oversight of depository institutions since the Dodd-Frank Act, said Marshall Lux, senior fellow at the Kennedy School and co-author of the study, which uses data from the American Enterprise Institute's International Centre on Housing Risk.
While much of the competition from newer lenders is healthy, he said, there were “concerning” signs of slipping standards in underwriting. That raises risks for the FHA, an 81-year-old agency which insures lenders against losses on certain classes of mortgage, as well as for Fannie and Freddie.
In the fourth quarter last year the median credit score of FHA-insured non-bank borrowers was 667 on the commonly used FICO scale, compared to 682 for bank borrowers, said Robert Greene, the co-author of the report.
Securities linked to risky subprime lending, which generally involves borrowers with scores below 660, were major contributors to the financial crisis.
Bob Walters, chief economist at Detroit-based Quicken, said that "any implication that non-banks are doing riskier loans than banks is flat-out wrong". He had not seen the study but said non-banks were performing a vital role for America's mortgage market.
Mr Walters added: “If banks are terrified to originate these [government-backed] loans, because – to use the trading adage -–they’re picking up nickels in front of a bulldozer, there is not going to be liquidity. First-time homebuyers, minorities, low-income households; they’re the folks getting squeezed out.”
Benefits
The new entrants have also brought new technology to the mortgage-application process that has improved an often lengthy and paper-intensive experience for borrowers, the Kennedy School study notes.
Regulators should weigh those benefits against the costs of cracking down on non-banks too harshly, said Mr Lux. “If [they] were not in the market, then the American dream of owning your own home would be significantly hurt,” he said.
Last month Republicans unveiled a draft bill that they said would ease the burden of regulation for banks in various markets, including mortgages. Senator Richard Shelby, chair of the Senate banking committee, said that "a serious, bipartisan effort" was needed "to reform our mortgage finance system".
– Copyright The Financial Times Limited 2015
