Home mortgage lenders are jubilant over the prospect of a record $1 trillion-plus in originations this year. But some executives admit to dark fears of a dizzying drop in demand in the near future -- and of a price war to go with it.
In fact, the war may already have begun.
"There are signs right now of very foolish pricing," said Charles Rinehart, president of California-based H. F. Ahmanson Co., citing "zero-point loans, or even less than zero when the lender pays the closing costs, and no prepayment penalty."
'You Have No Guarantee'
"They are out of their minds," he said, "You have no guarantee that you'll ever recover the cost of making that kind of loan."
He added: "The big unknown is when the purchase market will come back. If it doesn't and refinancings go away, you could have a big drop."
James A. Conrad, president of Source One Mortgage Services Corp., Farmington Hills, Mich., says he is uncertain about how soon origination volume will drop, but believes the decline could come "overnight."
"The appetite of the production machines will far exceed the available market," he said-"Many lenders are dependent on maintaining production to maintain profit. 1, think we'll be in for competitive pricing unlike anything the business has ever seen."
Shorter term, Mr. Conrad said, pricing already has become more aggressive. An informal study of rate trends shows that pricing has become about a quarter of a point more aggressive over the last six months, he said.
At Chase Home Mortgage Corp., Tampa, Fla., chairman Fred B. Koons says it's logical to expect a price war. "At some point, either. over time or abruptly like falling off a cliff, the market is going to be half the size it is now. Right now, it's in balance, later it will be oversupplied," he said.
Expects 'a Shakeout'
"You're going to see disinvestment in origination capacity, a disinvestment in the mortgage-banking business, a shakeout of the advantaged versus the disadvantaged."
Mr. Koons and Mr. Rinehart, like most executives, are optimistic about their companies' prospects in a market slump.
But pessimistic opinions about the mortgage industry as a whole have become almost commonplace and do not seem unrealistic, according to Stuart Feldstein, president of SMR Research Co., Budd Lake, N.J.
SMR has just completed its annual study of the largest mortgage lenders, having interviewed 70 top-level executives in depth during June, July, and August.
Potential for Huge Contraction
"The A-1 most serious issue in the mortgage industry today is probably the potential for a huge upcoming market contraction," Feldstein said. "Just before the start of the refi boom, annual mortgage volume was about $450 billion [against this year's expected $1.1 trillion]. What happens if we go back to the pre-refi level?"
"Residential prices have not risen, especially because of weakness in the Northeast and California. There's the possibility that the mortgage market will drop back to $450 billion."
"That's a potential contraction of about 50%. But what happened last time we encountered a market contraction? In 1987, a big rate spike shut off demand. There was a 13% decline, or a drop of about $63 billion.
'Sword of Damocles'
"There were massive layoffs, office closures, companies weakened and were acquired or became insolvent. But a contraction of the kind we're facing now could cause damage the likes of which this industry has never seen before. We have looming over us this sword of Damocles. It's almost sure to come down."
Mr. Feldstein said senior mortgage executives were already preparing contingency plans for the very different market they believe may be just around the comer.
He added that portfolio lenders won't have to prepare as extensively because they have not been carried high by the boom in refinancings and thus aren't riding for a fall.
"The mortgage bankers are preparing to market adjustable mortgages in a rising rate environment," Mr. Feldstein said.
'A Lot of Retraining'
"That involves a lot of retraining of personnel."
He mentioned Countrywide Credit Industries, Pasadena, Calif, and North American Mortgage Corp., Santa Ana, Calif., as two mortgage banks that have prepared for aggressive marketing of adjustables as the market demand shifts.
Also well positioned to survive and even benefit from the shifting market are institutions with production sources -- such as bank branches -- that are not dependent on mortgage volume.
"Some companies are very concerned about a price war," he said. "It's happened before and it can happen again."
Felix Beck, chairman of Margaretten Financial Inc., Perth Amboy, N.J., takes a somewhat different point of view. Because it has happened before, he says, a price war is less likely now.
"Let me take you back to 1987," he said. "There was excess capacity in the system, and lenders thought they could keep their staffs in place by improving pricing. It was a revolutionary thing called pernicious pricing. By the time everybody got through, they all ended up with the same market share but it cost them a lot more money.
"And I think people remember that."
Angelo Mozilo, vice chairman of Countrywide Credit, is also skeptical about an all-out price war. "Nobody, as strong as they are, can sustain a price war for more than a week," he said. "It's too costly. If they underprice at half a point, that can cost [many] millions of dollars in no time at all."
Mr. Mozilo said thrifts had price wars in the past but could no longer have them because of tighter regulatory standards.
But he does see some abusive practices amid the refinancing boom. "We are seeing brokers selling us a loan and then refinancing it a month later with another lender," he said.
"There's tremendous churning of accounts. In my view, it's our biggest problem right now."
Mr. Mozilo says that large, well-capitalized companies will be able to benefit from a contraction in the mortgage market.
Mr. Feldstein of SMR agrees. "There will be property for sale at bargain-basement prices," he said. And perhaps a few mortgages as well.