These are bittersweet times for mortgage lenders.

Many are enjoying record lending volume, as low interest rates prompt homeowners to refinance and first-time buyers to make their moves.

At the same time, however, lenders are taking some big lumps on the servicing side of the business. That's because refinancings are chipping away at servicing portfolios. Just last week the new BankAmerica announced a $250 million writedown of its servicing holdings.

This combination of booming business and harrowing perils has turned 1998 into a make-or-break year. While some companies have headed for the doors, many of the top players have viewed these market conditions as an opportunity to get bigger and more profitable than ever before.

"The real question is where will everyone be when the smoke clears," said Paul S. Reid, executive vice president of the Mortgage Bankers Association of America. "How far have they advanced with technology? Which have been the real progressive originators and servicers?"

This week an estimated 5,000 mortgage bankers will gather in Chicago to look for answers to those questions at the MBA's annual convention.

As the lenders convene, the industry's originations are headed for an estimated $1.4 trillion for the year, up more than 70% from last year and well ahead of the previous record, $1 trillion in 1993.

About half the volume has come for a surge in refinancings. With interest rates at a 30-year low, homeowners across the country have been rushing to trade old loans for new ones.

Refinancing volume, however, is notoriously fickle. It can drop quickly when interest rates rise, as the industry saw this month. (See story, page 11.) What's more, lenders servicing loans-processing monthly payments on loans sold into the secondary market-can lose at least as much business as they gain as consumers shop for the best deal.

But for companies prepared to address such risks, "there is some terrific upside," Mr. Reid said.

"We make a ton of money on the mortgage product," said Peter Wissinger, managing director of consumer lending and servicing at Norwest Mortgage, the largest originator and servicer of residential mortgages. In the third quarter, Norwest Mortgage earned $56 million, or 14.25% of the parent bank's total profits.

And there's the potential to cross-sell other bank products to mortgage customers, Mr. Wissinger said. The mortgage is "a fundamental product for banking relationships."

Mr. Reid said that this year he saw lenders "give much more than lip service" to cross-selling. "It's much more than anecdotal-there's real evidence that it can work."

Hugh Harris, chief operating officer of HomeSide Lending, said, "The big companies have six, seven, eight other relationships with that mortgage customer. For banks to have the rights to those customers nationwide is attractive."

That sort of thinking that has led a number of companies to build huge servicing portfolios. Seven companies now handle more than $100 billion each. (See the Home Loan Leaders supplement to this edition of American Banker.)

"Why wouldn't you want to be in the mortgage business?" Mr. Wissinger said. "The only reason would be you're not managing the business well, that you mis-guessed credit, the capital markets piece, the customer piece, or the risks on the servicing side."

The mortgage business is "an awesome way to generate customers, sell products, and build relationships. I don't know why you'd want to get out."

To anyone exiting the business, Mr. Wissinger said he would have to ask, "How'd you stub your toe?"

This year has seen plenty of toe-stubbing. Some lenders sold off large portions of their servicing businesses because they didn't hedge portfolios effectively, or lacked technological sophistication, or couldn't originate fast enough to replenish portfolios.

In April, Wells Fargo & Co. sold a $28 billion servicing portfolio to GMAC Mortgage. That took Wells out of the mortgage business entirely-though it now returning as a result of its pending megamerger with Norwest.

Also in April, Banc One Mortgage sold its $18 billion servicing portfolio to HomeSide Lending, based in Jacksonville, Fla. Banc One Mortgage had invested in technology, but still couldn't keep up with competitors, observers said.

Meanwhile, the volatile markets of the year battered several subprime companies and real estate investment trusts. And last week's servicing writeoff by BankAmerica was seen as a sign that more trouble lies ahead for big lenders in the mainstream mortgage market.

"It's a good business if you manage against risk," said Walter C. Klein Jr., chief executive officer of First Nationwide Mortgage Corp., a subsidiary of California Federal Bank. "If things get out of whack, it can exacerbate the risks even if your eyes are open."

Mr. Klein said CalFed likes being in the mortgage business because it's a way to both earn fees and generate assets for the balance sheet.

The business, however, is not everyone's cup of tea.

"There's been an exit of small- to medium-size players who weren't able to achieve scale and did not have the capital to keep investing money on risk management," said Mr. Harris of HomeSide.

Hedging servicing portfolios is "very expensive," Mr. Harris said, and "small and medium-size players don't have the size to justify the hedging expense."

But many big commercial banks have a "renewed love affair with mortgage banking," said the mortgage association's Mr. Reid. Twenty-six of the MBA's 30 largest members are owned by banks, he said. Several years ago, by contrast, independent mortgage companies were the stars.

Mortgage banking is "clearly a business that banks feel that they can be very good at, excel in, and dominate," said Thomas Jacob, chief executive officer of Chase Home Finance, a unit of Chase Manhattan Corp.

Chase Home Finance is working on "matching customer preferences with a particular channel," Mr. Jacob said.

That has meant building up Web sites to go directly to homebuyers, correspondents, and brokers, and buying branch offices. In September, Chase bought 26 offices from Mellon Mortgage, a subsidiary of Mellon Bank, Pittsburgh.

"Our high growth segments are the first-time homebuyers and immigrants," Mr. Jacob said. "They overwhelmingly express a preference toward doing business face to face."

Mellon and other banks, meanwhile, have been shedding retail mortgage branches outside their main banking markets, citing low returns.

Fleet Financial Group, Boston, sold branches outside its market to PNC Bank Corp., and Bank United, Houston, sold all its mortgage branches outside of Texas.

Mr. Wissinger said he was baffled by the abandonment of bricks-and- mortar retail branches by some of his cohorts.

"Why isn't everybody in retail? It's the part of the business that's got the highest margins."

Big lenders lacking major retail networks are "missing out on so much money, so many customers. The margins are two to three times those of third-party originations."

Plus, retail affords the opportunity to build brand awareness. "Why wouldn't you want to do that?"

With the competition intensifying, some big lenders have been looking for opportunity in specialty segments of home finance.

This year First Union Corp. bought Money Store, a lender to homeowners with less-than-perfect credit; NationsBank Corp. pledged to build a sizable manufactured housing program after its merger with Barnett Bancorp netted a start-up unit; and GreenPoint Financial Corp. bought the country's second- largest manufactured housing unit from BankAmerica.

"We like being a big player in a niche," said Thomas Johnson, chief executive of GreenPoint. In addition to manufactured housing loans, GreenPoint offers no- and low-documentation mortgages.

"Unless you're one of the largest companies nationwide," conventional mortgage lending is a tough business, Mr. Johnson said.

A number of nonbank subprime lenders, however, have been hit hard by falling interest rates. Several were forced to take writedowns after revaluing securitized loans. Investors and creditors have fled the market, leaving several with serious liquidity problems. These have accelerated in the past month, culminating in the bankruptcy of Southern Pacific Funding Corp. of Lake Oswego, Ore.

"Talk about a radical change in the market!" exclaimed Jeffrey M. Levine, director of investment banking at BayView Financial Trading Group, Miami, referring to the subprime shakeout.

Meanwhile, many mortgage lenders are turning their attention to the government-sponsored secondary market titans, Fannie Mae and Freddie Mac.

"In previous decades the role of the secondary market players was well established and understood by all. Going forward it's not as clear to many of us," said Angelo Mozilo, chief executive officer of Countrywide Home Loans in Calabasas, Calif.

"We've seen the GSEs begin to tread in territories that were historically held by mortgage banking entities," he said, referring to Freddie and Fannie's recent indications of interest in subprime lending. The two companies' use of technology is also raising concern, he said.

"What the GSEs do has a direct impact on the seller-servicers," Mr. Mozillo said. "It's going to be more than an interesting dialogue."

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