Mortgage insurance companies insure loans with down payments of less than 20%. In effect, the private mortgage insurance industry serves the growth segment in the mortgage finance industry, a niche that should provide dependable growth for years to come.
In 1994, we estimate, more than 30% of all purchase mortgage transactions involved mortgages with down payments of less than 20%. This is considerably higher than the levels in 1993 and 1992 and explains why industry insurance in force continued to expand so robustly - 15% in 1994 - even while the housing and mortgage finance industry slowed so dramatically in 1994.
Looking at 1995, lower mortgage rates could only increase the underlying demand for this product, which we think will remain strong over the long term for the following reasons:
*Homeownership rates are invariably headed upward due to aging of the population, strong housing affordability, and housing outreach programs including the CRA and the commitment by Fannie Mae and Freddie Mac of hundreds of billions to support affordable and moderate-end housing.
*Mortgage origination technology promises to sharply lower origination costs, which we believe are currently $2,500 per loan. While no precise figures are available, the existing technology offered by firms like Fannie Mae and Freddie Mac could immediately lower origination costs by $500 per loan, with more to come.
As closing costs are a significant barrier to homeownership, particularly among moderate-income households (where homeownership rates are 30% to 40%, half the rate for upper income households), gains in mortgage origination technology should have a significant effect on homeownership trends.
*Immigration trends are expected to remain strong. This argues for both a higher population as well as strong potential market share among immigrant groups, which tend to be heavy users of mortgage insurance over time. Accordingly, we think industry mortgage insurance in force is likely to sustain double-digit growth for the foreseeable future, with continued surprises to the upside.
*The industry possesses unique countercyclical operating characteristics that make it one of the most consistently predictable within financial services, an irony not totally lost on the marketplace, which has put higher multiples on this industry as it navigates through a much more cyclical housing and mortgage finance structure.
As we have indicated previously, there are four major countercyclical factors in the earnings continuity to the mortgage insurance industry.
First, as interest rates rise, persistence strengthens as new business contracts. Thus, less new business is required to maintain a given level of growth for mortgage insurance in force.
Second, as rates rise and new business contracts, expense growth slows and eventually investment yields catch up.
Third, new business is made up of higher components of ARMs, which tend to have much stronger premium rates (and higher risk characteristics).
Finally, revenues tend to have a long tail, so the impact of a given level of new writings or perseverance tends to be mitigated unless conditions persist for extended periods.
The entire low-down-payment market is made up of the government-insured loan segment of Veterans Administration and FHA programs, which are guaranteed by the Government National Mortgage Association, and those insured by private mortgage insurance companies, which are often sold or securitized by Fannie Mae or Freddie Mac.
Part of the reason the mortgage insurance industry's growth in recent years has been more than twice that of the primary mortgage market is its growth in share versus the public sector. New writings by mortgage insurance companies have shown consistent secular improvement in their share of total originations since the late 1980s.
