A tough spell for bank-owned mortgage operations could get worse before it gets better.

First Tennessee National Corp. this week said that its mortgage banking unit, FT Mortgage Cos., earned $18.7 million before taxes in the fourth quarter, off 27% from the same period a year earlier. It attributed the slide to the continued rise in interest rates, which has killed off refinance volume and sparked intense price competition.

"The first half [of 2000] is going to be tough," said J. Kenneth Glass, the executive vice president at First Tennessee who oversees the mortgage business. "The first quarter is normally pretty rough in mortgage banking anyhow" because winter is a slow season for home sales.

At Wells Fargo & Co.'s huge Norwest Mortgage unit, which managed to post fourth-quarter growth, president Peter Wissinger is also bracing for harder times.

"Rates have backed up a ton," he said Thursday. "Since January we've seen a substantial increase in mortgage rates," with 30-year loans being priced close to 8.375%. "That's going to make production tough. There's still a lot of capacity in the industry. When there's excess capacity and less volume, it typically creates a very competitive environment, which we're seeing out there."

Mr. Glass said First Tennessee plans to deal with the adverse environment by continuing to cut costs and expenses "in line with the level of production." Mortgage banking is First Tennessee's biggest source of noninterest income.

Even though production volume fell, origination fees increased 12% to $428 million. How did fees rise if originations were lower? At the end of 1998 there was a rush of refinance volume, as the flight to quality in U.S. Treasury bonds drove interest rates down. A lot of those refinance loans were not sold in the secondary market until early 1999, and the company does not recognize origination fees until a loan is sold.

"Going into the year 2000, you don't have that going on," said Marty Mosby, senior vice president of investor relations and strategic planning at First Tennessee. At yearend, the company's warehouse of closed loans held for sale was $2 billion, less than half what it was at the end of 1998.

"You're not going to have that overhang of profit we had in the first quarter of the prior year," Mr. Mosby said.

Mr. Glass said: "You're not going to see a lot of profits in that business in the first quarter or two relative to a year ago. You're comparing to the high-refi market that existed through the middle of 1998."

First Tennessee benefited from being a top-20 servicer of mortgages. Higher interest rates made its customers less likely to refinance their loans. So it collected $168 million of servicing fees last year, up 42%.

But like most of the big servicers, FT Mortgage hedges its portfolio with instruments that tend to increase in value when rates fall. As rates rose last year, such instruments did not gain as much as they did in 1998. As a result, fee income from activities other than origination and servicing fell 13% to $50 million.

The reduced gains on the hedges were partly offset by increased profits from bulk sales of servicing rights, mostly in the fourth quarter. Since it can't mark up its portfolio, Mr. Mosby said, FT Mortgage sold some of it to realize the increase in value.

The Wells Fargo & Co. unit reported profits rose in the fourth quarter by 26% to $70 million. Norwest Mortgage is the third-largest servicer, with some $280 billion in its portfolio. But Mr. Wissinger said the growth in earnings came not only from servicing but also production.

He credited the high concentration - 51% last year - of Norwest's production that comes from its retail channel, which includes bank and mortgage branches, telemarketing, and the Internet. Norwest makes a fatter margin on each loan originated through retail than it does on loans it buys from brokers and correspondents, Mr. Wissinger said.

"We think we got a leg up over our competitors because of the high concentration of retail," he said.

Though production could be a challenge this year, Mr. Wissinger said Norwest has yet to fully exploit the potential created by its former parent's 1998 merger with Wells Fargo, and he said he intends to hire more sales personnel in the West Coast banking company's old territory.

Meanwhile, Dime Bancorp said an 8% decline in noninterest income to $153.9 million was due to the rise in rates and the resultant slowing of residential loan production and reduction in gains on loan sales. Dime originated $3.9 billion of home loans in the fourth quarter, off almost 60%.

Subscribe Now

Access to authoritative analysis and perspective and our data-driven report series.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.