Some bank-owned mortgage companies are learning that turning to adjustable-rate loans to ride out rising interest rates can be a costly strategy, at least in the short term.
Wells Fargo & Co. reported Tuesday that its Des Moines mortgage unit's second-quarter earnings fell 7.5% from a year earlier, to $62 million.
Though its servicing portfolio grew 12%, to $298 billion, originations dipped 22%, to $18 billion. In a statement, Mark Oman, executive vice president and chairman of Wells Fargo Home Mortgage, said the shortfall occurred because the unit sold only $11 billion of the $18 billion into the secondary market.
"Originations are the key driver of production costs, while secondary market sales are the key driver of production sales," he said. "The seasonal nature of the home purchase market and our decision to portfolio some of our ARM loans resulted in the unusually wide gap between originations and deliveries."
Chase Manhattan Corp. reported Wednesday that second-quarter revenues from mortgage originations and sales dropped 53% from a year earlier, to $41 million. It cited "the rising interest rate environment," but did not elaborate. Chase is one of several large banks that in the past have touted their ability to originate adjustable loans as a competitive advantage in such an environment.
Mr. Oman said the Wells unit's second-quarter results "don't fully reflect the full economic value which we created." That value would be reflected in future earnings periods as the loans pay off, he said.
Why did Wells choose to hold some of its adjustable loans in its portfolio rather than sell? The company would not make executives available to elaborate. Banks generally like to hold such loans for some time before selling them to demonstrate a track record to potential buyers, said Craig S. Davis, executive vice president of mortgage banking at Washington Mutual Inc. of Seattle.
Adjustable loans tend to be underwritten to different - though not necessarily lower - standards from those required by Fannie Mae or Freddie Mac, the two biggest buyers in the secondary loan market, Mr. Davis said.
"You want to season those loans to show a year or two of performance before you sell them" in order to get the best price, he said. Also, because a lot of adjustable loans are "jumbo," they are too large for Fannie or Freddie to buy.
Wamu's second-quarter earnings got an $80.7 million boost from loan sales, and most of those were seasoned adjustable-rate loans, rather than newly originated mortgages, Mr. Davis said.
As evidence of the popularity of adjustable loans, Golden West Financial Corp. of Oakland, which specializes in them, on Tuesday reported a 98% increase in originations in the second quarter. Marion O. Sandler, chairman and chief executive officer of Golden West, said adjustable loans "were the loan of choice" during the first half.
Even if originating adjustable loans for one's portfolio can mean less in revenues now and more later, lenders such as Washington Mutual swear by the strategy of being able to originate both adjustable- and fixed-rate loans.
"In this market, Realtors and brokers know we have loans to fit borrowers no matter" what type of loan is right for that borrower, Mr. Davis said. "Our portfolio lending capabilities give us the opportunity to do more of all products."