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Gate House: Tim, it’s no secret you have strong opinions when it comes what might be called enforcement overreach by the federal government in its regulation of the mortgage market. What’s your take on the current state of housing regulation and compliance?
Rood: We’ve fallen dangerously from a world where the mortgage industry was ruled by a series of sensible guidelines to one of complex and endless rules. Look, the reason you saw the cost of mortgage origination go from below $2,000 per loan in the early 2000s to somewhere now near $12,000 is in large part due to the federal government becoming compelled to legislate and regulate every possible, egregious scenario and eventuality. Of course that’s impossible. But they’ve claimed the high ground. To comply, IMBs and financial firms are drowning in layers upon layers upon layers of compliance and risk management processes and resources. It’s expensive. That’s where the dramatic rise in origination costs, certainly fixed costs, largely comes from. The government says they’re protecting consumers. Quite frankly, I suspect there are a large chunk of consumers out there who would say, “Hey thanks for the help, federal government. But I think I’ll just keep the ten grand.”
Gate House: Where’s all this headed?
Rood: The level of compliance pressure on the industry is fast approaching unsustainable. Given fixed costs the way they are, more and more players are finding they simply can’t compete. Regulatory costs are forcing them to leave the business for good. Why wouldn’t you take your capital to more promising pastures? I’m seeing it every day. At some point, you could see the federal government having to confront the extinction of the independent mortgage banker. Seriously, think about that. The independent mortgage banking system, the nation’s core mechanism for providing mortgage origination and servicing to consumers. Gone. Then what? Well, should the federal government wake up one day to finding no firm willing to accept the unidentifiable and unmitigable risks of mortgage origination, it likely would act reflexively and decide to nationalize all mortgage origination and then mortgage servicing for similar reasons. Far-fetched? Four words for you: Fannie Mae Freddie Mac.
Gate House: In your own work, you’ve dipped your toe into the waters of government regulation and oversight, in a pretty unique way, we hear. Through AI, right? Tell us about that.
Rood: Yes, we’re working with great investors and some brilliant IT and artificial intelligence developers. And that has resulted in our firm having created a first-of-its-kind AI product designed to empower real estate and mortgage finance professionals whose business requires them to navigate today’s global economy and regulatory environment. It is a robust suite of purpose-built AI tools tailored to the needs of industry professionals at all levels of a firm’s operation. Think about all our colleagues and friends out there in the marketplace. You know, the ones actually getting it done. They’re out there in the real world of the business. And every day, they need facts, market intelligence, compliance and risk management advice and choices which the right AI platform can provide quickly and accurately. We are focused on empowering people throughout the supply chain to make them more valuable individually and to their employers versus building tools to replace them. We’re building and growing. It’s exciting.
Rood is the founder and CEO of Impact Capitol. Impact Capitol is bringing leading edge AI business solutions for the real estate and mortgage industries. He is the former Head of Government & Industry Relations for SitusAM.
3 Questions for Gate House Compliance Team Member Mike Forester
Question: Mike, what is fair lending risk?
Forester: First let’s make sure to define fair lending itself. It starts and ends with the law, which prohibits lenders from discriminating against applicants based on race, color, national origin, sex, familial status, disability, marital status or age. Fair lending risk is the potential for adverse litigation, regulatory action and reputational damage caused by insufficient attention paid by an institution to fair lending principles in all its operations. For a lender, vulnerabilities can hide inside five categories of risk: pricing risk, underwriting risk, redlining risk, steering risk and level-of-service risk. Through data analysis, we serve as an early warning system by pinpointing potential weaknesses in any of those areas that have been ignored, overlooked or mismanaged.
Question: So the threat that institutions face really isn’t litigation, regulatory action or reputational damage. Those are the consequences of poor fair lending risk management. But the fundamental threat is the vulnerability lurking from within. And the lender might not know where it is. Right?
Forester: That’s exactly right. It’s like a horror movie where there’s a monster in the house, and everyone’s screaming, “Don’t go in that room!” But you’ve got to go in the room. You’ve got to look in every closet and behind every door. Find the threat, neutralize it and help everyone get out safely. In our work, the goal is to identify the threat through data analysis, so that an institution can fix the problem and better manage potential trouble in the future.
Question: Of the five categories of risk that you named, which seems to garner the greatest attention these days?
Forester: I’d definitely say the answer is redlining risk. Multiple regulatory agencies are strongly focused on it, and we foresee that commitment continuing well into the future. And remember this isn’t your grandfather’s redlining, when discrimination against millions of Black and brown Americans was codified by drawing on maps actual red lines around certain neighborhoods to indicate where a lender would not do business. I think we’ve borrowed the phrase “redlining” from that regrettable past to now mean something somewhat different, but equally important to test for. It’s what I would call “hidden redlining risk” and it’s uncovered through results-based analysis. For example, we can look at a lender’s marketing or, say, branching strategies, and reveal broader fair lending implications of those strategies that were unseen by the institution. It’s detective work that every lending institution of any kind needs to be doing.
Mike Forester is co-founder of CrossCheck Compliance. The firm is a key component of the services offered by Gate House Compliance.
3 Questions for Gate House Compliance’s Dror Oppenheimer
Nationally Recognized Credit and Underwriting Expert Speaks on CFPB’s Reg X Proposal:
“Having this draft language available gives mortgage servicers the opportunity to begin preparing now for a final rule.”
Question: We’re a little over a month away from the current deadline for public comments on the CFPB’s proposed rule for changes to Reg X. The proposal that came out earlier this month focuses on default servicing requirements and the framework for regulating how the mortgage servicing industry handles loss mitigation. Major industry groups already have responded pretty favorably to what the Bureau announced. Do mortgage servicers have anything to worry about here?
Oppenheimer: Keep in mind several trade associations have asked for an extension to the comment period. But I think that’s driven by thinking that a relatively short 60-day comment just isn’t practical in the summer season. Otherwise, you should expect to see a generally favorable response from industry. That’s because this announcement essentially boils down to the CFPB memorializing changes that it made on an interim basis in 2022 during COVID. Those changes were viewed back then as positive for both consumers and for servicers.
Question: What were those changes about?
Oppenheimer: They were largely about the streamlining and regularizing of the loss mitigation process and the rules designed to protect borrowers from preventable foreclosures. Ever since the pandemic, servicers have become accustomed to what had been instituted only temporarily. In fact, changes of this nature first appeared in 2014 when the CFPB standardized the foreclosure and loss mitigation rules for mortgage servicers following the financial crisis. Before then, there was a lack of standardization of loss mitigation rules across the mortgage industry. The industry has already been operating in this particular regulatory environment for the better part of a decade now. What the bureau is saying is, “How you’ve been dealing with Reg X over the past several years is the way of the future as well.”
Question: So, servicers have nothing to worry about?
Oppenheimer: I wouldn’t say it quite like that. On the one hand, it’s not at all surprising to see this proposal. At the same time, no one should ignore the task ahead at hand. Having this draft language available gives mortgage servicers the opportunity to begin preparing now for a final rule, which is almost certainty inevitable. I’d recommend they take a deep dive into the proposed language today to focus on any language that may be overly burdensome, and prepare their systems, policies and procedures accordingly. In other words, now is the time to make sure their operations, especially processes related to loss mitigation, line up with what the CFPB has signaled will ultimately be in place for the future.
For his June cover story in National Mortgage Professional, staff writer Ryan Kingsley interviewed key members of the Gate House Compliance team, including partners Brian Montgomery and Michael Waldron, and top Gate House consultants Paul Hancock and Liza Warner.
Kingsley examined “the modern theory of redlining,” efforts by regulators and enforcement agencies to advance allegations of redlining “without demonstrating a lender’s intent to avoid or otherwise restrict access to mortgage credit in those communities.”
The modern theory, Kingsley writes, rests largely on whether lenders “originate a below-average number of mortgages in CRA-eligible census tracts,” which then “manufactures perceptions of discriminatory lending, while pushing lenders to manufacture their fair lending compliance.” The result is both enforcement and lender’s compliance becoming “a data exercise.”
Montgomery, who has served in the White House and at the highest levels of government across four different presidential administrations, argued that “even if there’s a change in administration, there will continue to be a focus on this topic, as there should be.” Moreover, the focus today has evolved to include not just to lenders but mortgage loan servicers, who have traditionally not kept data on the race of borrowers, putting the industry in new territory.
Hancock, a partner with K&L Gates who led the fair-housing and fair-lending enforcement program at the Department of Justice, offered a perspective from someone who has litigated fair lending compliance issues for four decades, maintaining that the approach the government is taking under the modern theory presents a real challenge:
“Our clients abhor [redlining],” but“[i]f the government is actually demanding a racial balance in loan originations, saying all lenders in the city of Chicago should make 20% of their loans in minority neighborhoods,” [for example,] “that’s a demand for a racial balance that is prohibited by the Constitution,” Hancock said. “It’s prohibited by civil rights laws. I think that, if tested, it would be rejected by the courts in this context.”
“Under the government’s theory, you can eliminate redlining by just making fewer loans in white areas. You’re not doing any more in minority areas,” Hancock says. “You’re making fewer loans in white areas and somehow that solves your legal problem. That just doesn’t make any sense.” Hancock says there hasn’t yet been a major case around fair servicing yet, though the government is looking for one. Hancock also notes: what is being demanded of lenders (and servicers) could change, putting them in a tough spot.
Waldron, who served as chief compliance officer for Bayview, says that the regime in place for many mortgage servicers (compared to fair lending) is “not as mature of a structure and mature from a thought-leadership perspective,” making it more difficult for servicer to stay ahead.
Warner, a partner with CrossCheck Compliance who leads its regulatory compliance, internal audit, and risk management team, and has 35 years examining the issues, concurred. Warner says the servicing side is “obviously is not as mature of a process of monitoring as it is on the origination side, and you don’t have a set of data like you have the [Home Mortgage Disclosure Act] data to compare results against.”
“It’s a little more challenging that way., Warner states, “you really have to understand what’s happening within the operation in order to conclude on anything with respect to the data.” Servicers “need to make sure as a company that the data is accurate, first of all, and that as an organization [they] understand what the data is telling [them], Warner says.
Hancock notes a large problem for the industry and with the government’s approach: much of the data available to lenders for analysis offers a rear-view perspective, making any ongoing benchmarking with peers implausible.
“What you don’t want to do,” Waldron explains, “is take action that inadvertently doesn’t mitigate the very issue that you’re trying to solve for.”
Kingsley concludes: Drawing bad conclusions from good data can lead lenders to make misguided investments or operational changes, inadvertently increasing long-term risks.
All of us in housing and housing finance strive to promote and protect the principle of fairness in America. In doing our work, we are indebted to leaders who decades ago shepherded our nation's highest ideals through the passage of the long-overdue and hard-earned Fair Housing Act of 1968.
One such person was the late Stephen J. Pollak, a prominent official in the 1960s-era U.S. Department of Justice’s Civil Rights Division, who passed away in February at the age of 95.
Pollak's life will be celebrated at a special gathering this week in DOJ’s Washington headquarters.
As our friend and collaborating colleague at K&L Gates, Paul Hancock, who will attend the event, reflected on Pollak's outsized role: While many events led to the passage of the historic Fair Housing Act, it may not have happened but for the efforts of Pollak, because he brought opposing views together to form a compromise that became law.
In the days immediately following the 1968 assassination of Dr. Martin Luther King, President Lyndon Johnson put pressure on Congress to pass the proposed Fair Housing Act which had to date floundered.
Pollak later wrote about the frantic, eleventh-hour negotiations on Capitol Hill that led to the bill which both sides of the aisle could agree upon:
“I again put myself in the position of being the scribe and was able to maintain some coherency to the legislation in the midst of great confusion … There was really a wild concatenation of discussions about changes in the Fair Housing bill. I kept the existing draft in front of me and methodically and ploddingly kept moving through it, sort of being unwilling to hear the conflicting suggestions so that the bill wouldn't just entirely blow into smithereens. In the end I shoved the draft into Senator Dirksen's hand as he went running out on the floor, and that was the bill that was then introduced by him and on which cloture was ultimately voted."
The intellect and commitment of this Yale-educated lawyer was a driving force in the creation of greater fairness, equality, and civil rights for all.
To read more about Stephen Pollak's remarkable life and contributions see the this blog post by Assistant Attorney General Kristen Clarke:
https://www.justice.gov/opa/blog/remembering-civil-rights-division-leader-stephen-j-pollak
Executives and board members in financial services are increasingly held accountable for the actions of their firms. Among their many responsibilities, they are required in particular to be engaged in their company’s efforts to adhere to the letter and spirit of laws that seek to ensure consumer protection.
As the regulatory landscape facing executives in the financial services industry has grown increasingly complex – and integral to their enterprises and their firms’ reputations – so too has the need to demonstrate and document the actions taken by their firms.
Gate House Chairman and Partner Brian Montgomery recently outlined the challenges facing executives in a piece for HousingWire. As he argued, even with the best of intentions, there are often inconsistencies and conflicting interpretations of what firms need or ought to do — and what executives need or ought to in order to stay apprised of their firm’s efforts. One thing we know it that it will require vigilance and a lot of hard work to get it right.
Recognizing the important need in C-suites and executive board rooms, Gate House Strategies has launched a new subsidiary, Gate House Compliance, LLC, to provide fair lending and compliance management services. The firm, comprised of veterans in financial services and specialists in fair lending and consumer protection law and regulation (and support from CrossCheck Compliance’s deep bench of experts), will advise and support compliance regimes across multiple asset classes, including mortgage, student loan, credit card, and other secured and unsecured credit products.
The addition of Gate House Compliance is a timely and critical expansion of the firm’s ability to serve the growing needs of the industry. After careful examination, clients can choose services that complement their current compliance program, or on a subscription basis, they may utilize Gate House Compliance 365, a comprehensive system of ongoing support of fundamental services and a coordinated, dynamic approach to the management of regulatory risk.
The important policy goals our country require executives to be engaged. They need experience, perspective, and insight in order to do what is right and, and – when the path is made unclear by conflicting policies or interpretations – what is prudent for business.
The goal for Gate House Compliance is to put executives and firms ahead of the curve and ahead of the scrutiny that characterizes the current environment and road ahead. Vigilance and a team of experts with a steady hand will be a must.
The inflation picture in the U.S. has improved quite significantly, so much so that the Fed has appeared to have pivoted quickly from a pause to being done with rate increases, to what is currently expected rate cuts this year. They see economic weakness, consumers who are stretched and a shift in consumption patterns, and business spending on equipment beginning to wane. The Fed moving the fed funds rate lower will depend on whether things weaken and how quickly, but the market is now expecting 2-3 cuts this year, some saying as early as March.
The jobs number Friday (216k added) was higher than the low expectations set (160k), with unemployment holding steady at 3.7%. The story now seems ot be slower growth and weakening jobs market. As Morningstar put it, “under the surface, the trend still points toward a gradual slowdown, suggesting an economic soft landing remains very much in play,” and indicating 2024 Fed rate cuts remain on the table. Their chief U.S. economist Preston Caldwell: “Markets may be focusing too much on the solid job gains in December and not enough on the downward revisions in October and November.” Caldwell said he expects more downward revisions next month.
JPMorgan’s Michael Cembalest and team look at over 20 leading indicators each week and while coincident indicators are looking good at the moment, they see the leading indicators signaling economic decline, not a large decline, but “a run of the mill decline in U.S. economic activity which is consistent with a recession,” Cembalest said, including a decline in corporate profits this year.
What does this all mean for housing in 2024?
We were saying late last year we see the potential for the tale of two cities this year, particularly in the first 2-3 quarters, where low unemployment, decent wage gains, and lower mortgage rates mean the housing market picks up in the spring for higher earning households who have been waiting to find a new home, while affordability lags for LMI buyers — the softening jobs market, a hangover of higher debt service burdens, and the higher cost of living means they continue struggle until rates fall significantly further or deflation vs disinflation.
While mortgage rates ticked up this week, they are down from near 8% to near 6-and-a-half — likely enough to get many buyers on the sidelines to move soon. That’s good for volume, and it may both improve homebuilder confidence and free up some stock of existing homes. But again, not enough in the short term to fill the real need in many markets around the country — the lack of inventory means affordability remains a problems for first time homebuyers.
The difficulties facing the commercial real estate market continue as we begin 2024, but the Fed’s posture change has turned sentiment, leading experts to believe transactions will pick up sooner rather than later. Lower rates have helped close the financing gaps that prevented deals, but differences in opinion as to the underlying value of these assets will continue to be a hurdle, as the Commercial Observer reported last week.
Also of note: George Sheetz v. County of El Dorado, to be heard by the Supreme Court on Tuesday, challenges the use of permit “impact” fees for single family homes that increase development costs and which significantly affect the provision of affordable housing. A ruling in favor of Mr. Sheetz could have wide implications, including on local jurisdiction low-income housing mandates for multifamily developers.
Gate House Partner and Chairman Brian Montgomery shared his perspective on the regulatory landscape facing executives in the financial service industry — the need to act responsibly with respect to fair lending laws and to understand the complexity of it all – in a piece for Housing Wire.
“[M]ultiple agencies pursuing the same general goals sometimes creates inconsistencies or conflicting interpretations of policy, making it difficult for financial institutions to navigate uncharted waters, even with the best of intentions.” Montgomery wrote.
Montgomery, who served as Deputy Secretary of HUD and FHA Commissioner twice, emphasized the risks, particularly in the areas of lending and loan servicing: “Recent regulatory actions have targeted marketing practices, credit allocation and product offerings,” he said, with top executives more often being held accountable for their “company policies, procedures, operations, and culture.”
With risk to the firm not only financially but reputationally, the need to “identify gaps that may exist in their knowledge and experience and structure management teams accordingly” is paramount if they are to demonstrate to overseers that they possess a comprehensive approach to their compliance obligations.
Private industry participants have their work cut out for them as they go about the critical work of upholding the letter and spirit of our country’s fair lending laws, Montgomery said. Both private firms and government must work together at times, with private industry willing to serve as partners to government and the government for their part providing “transparency, open dialogue and technology improvements” to make our system work.
As anticipated, Chairman Powell maintained a rather hawkish tone Friday afternoon, citing unexpected economic strength in the third quarter as reason to stay vigilant on inflation. “We are attentive to signs that the economy may not be cooling as expected.” Powell said. The Fed, Powell said, is “prepared to raise rates further if appropriate and intend to hold policy at a restrictive level until we are confident that inflation is moving sustainably down toward our objective.”
JPMorgan Asset Management’s chief global strategist David Kelly said Powell wants to keep expectations open as they approach the September meeting. Kelly, however, says from his point of view the bigger risk for the Fed at this point is hiking again, as we don’t yet know the full, lagged effects of the Fed’s aggressive rate rises yet, and there is every reason to believe, Kelly argues, inflation is on its way down, citing recent global PMI numbers, new car prices falling this year, and rents stabilizing. JPMorgan expects we will be in the low 3s by the end of this year and 2% by end of next year. Kelly also said he believes it is nearly impossible to go into recession with 9.5 million job openings, a lingering effect of the pandemic that is helping to keep inflation lower.
Morgan Stanley’s Global Head of Corporate Credit Research Andrew Sheets said much the same on inflation: “Two key measures of underlying inflation, core PCE and core CPI, slowed sharply in the most recent reading.” Sheets said. He says car prices and rent—big drivers of high inflation last year—are now pointing in the opposite direction. Sheets also sights tightening bank credit and a moderation in job growth as a sign rates are restrictive enough for Morgan Stanley economists to believe the Fed is done this year.
On the bond market, Sheets also noted: “Since 1984, there have been five times where the Fed has ended interest rate hiking cycles after multiple increases. Each time the yield on the U.S. aggregate bond index peaked within a month of this last hike. In short, the Fed being done has been good for the U.S. Agg Bond Index.”
Perhaps in line, 30 year mortgage rates ticked further upward over the 7% level on tight housing supply, as Mortgage Bankers Association (MBA) data indicated mortgage application activity drifted further downward to levels not seen in nearly three decades. Lawrence Yun, chief economist at the National Association of Realtors, said the future path of rates depends on 10-year Treasury yields and on what the Fed does at its Sept. 20 meeting. “We are at this critical juncture,” Yun said. “[Mortgage rates] can either break higher, up to 8 percent, or lower, to 6.5 percent.”
Meanwhile, Auction.com reported more than nine in 10 default servicing industry leaders expect completed foreclosure auction volume to increase this year compared to 2022, with 85 percent of those surveyed expecting home prices to decline in 2023 compared to 2022.
With FHFA indicating 5.5% home price appreciation year-over-year on limited supply, the blessing and the curse continues: homeowners gain equity while affordability for first-time buyers wanes.
Though mortgage rates made a decisive move off the near 8% mark, they are still relatively high and spreads over Treasuries remain larger than normal, exacerbated by government fiscal woes and international crises. Supply of existing homes is being constrained as homeowners with low rates stay where they are, perhaps a good scenario for builders of new homes which are making up more of that supply, but a challenge overall to supply and sales volumes.
With student loans restarting October 1, and mortgage payments restarting as COVID-era forbearances end—a great number of consumers are exhausting savings and resorting to higher credit card use, and their debts are rising. With the possibility the Fed is done raising rates (the conventional wisdom of the day) we can see the home market pick up in the spring for higher earning households while LMI borrowers struggle, at least until rates fall.