For community bankers, it was always a romantic notion, the idea that they could give mortgage lending short shrift and beat the big guys on commercial loans.
Mortgage lending is looking pretty good to these bankers now. So much so that, postcrisis, a number of them are re-entering the business or expanding existing mortgage operations. In some instances, banks have even accelerated lending outside of their core markets, sometimes well beyond, despite the inherent risks.
"The opportunities have become attractive" for smaller lenders, says Bose George, an analyst at KBW's Keefe, Bruyette & Woods.
The financial crisis stung larger home lenders, and the heightened regulation that followed hasn't done them any favors, either. Those now emphasizing commercial loans have driven down rates there, making it tough for small banks to make money in that field. For community banks now, the grass can appear greener back in mortgage lending.
"We continue to look at lines of business that differentiate us … but we won't be able to do that through C&I at rates that are getting lower and lower," says Bartow Morgan Jr., the chief executive of Brand Banking in Lawrenceville, Ga.
Mortgage trends have shifted significantly in the past year. In the first quarter, the 25 biggest banks grew mortgage volume by a narrow 2% from a quarter earlier, according to data from the Federal Reserve Board. Mortgages grew 17% at all other banks over the same period. Still, the biggest banks, on average, originate roughly double the volume of all other banks each month.
Returns have something to do with that. While interest rates are low, mortgage returns have risen because such loans have become more attractive to secondary buyers, partly because of stricter underwriting standards following the housing meltdown.
"Mortgages are a less commoditized product than they were a few years ago," George says. "It's very difficult to get them, so it makes sense that people would pay more."
For some bankers, that incremental increase in fee revenue is critical at a time when regulation has dried up other opportunities.
"Mortgage banking is consistently 30% to 40% of our monthly net profit," says Curt Gabardi, the president and chief executive of Metropolitan BancGroup in Ridgeland, Miss. "As a stand-alone, monoline business, it takes very little capital and virtually no call-back risk. We originate it, we sell it and, when we sell it, we make our profit."
The $536.8 million-asset Metropolitan recently expanded into Nashville, Tenn., by hiring a team of mortgage officers in the market. The team has helped boost mortgage production by 30% in the past 60 days, to nearly $10 million, executives say. While most of that is from moving existing business into the bank, Gabardi says the bank has found "real cross-sale" opportunities through its mortgage strategy.
A handful of other community bankers have said they will expand into new markets or start up new mortgage operations.
Edward Grebow, the president and chief executive of Amalgamated Bank, said in a recent interview that the New York bank is launching a mortgage operation July 1. First Farmers and Merchants Bank in Tennessee said it is expanding its mortgage operation into Alabama by hiring a loan officer in Florence.
In the past year, First Farmers expanded its product offerings by adding a 30-year mortgage, which it originates and sells into the secondary market. Previously the bank only offered 15-year fixed-rate mortgages.
"We found that our customers were taking advantage of lower rates for longer periods of time, so we changed our model a bit," says Bill White, who leads First Farmers' mortgage banking division. He says that northern Alabama is a "very vibrant market" with similar demographics to the bank's existing markets.
Even the struggling 1st Mariner Bancorp in Baltimore, which only recently returned to profitability, sent out refinance mailings last month to homeowners in North Carolina.
Industry observers are keenly aware that out-of-market expansion, coupled with poorly structured loans terms, contributed to the housing bubble and the ensuing financial crisis.
Many contend, however, that there is less risk today. Heavier regulation has drawn a fair share of complaints, but it has also driven many nonbank lenders out of the market and should ensure that bankers make better decisions. By and large, only the highest-quality loans are making it through in any market.
"Clearly, there are risks in going outside your footprint," George says. "But when you look at what is being originated now, the credit quality is very, very good, which is the reason why lenders are comfortable with growing" outside their typical markets.
George says the spread between the prime rate on mortgages and the rate for mortgage-backed securities is more than 100 basis points, making underwriting a more attractive investment. Historically the spread was half that level, he says.
Mortgages require greater volumes to produce good returns, which is why most community banks tried their hand at commercial loans in the first place. Now that volumes are coming back, so is profit. Brand Banking started a mortgage operation in 2006, but Morgan says the bank has posted its highest volume this month, with $127 million in the pipeline. The operation, which spreads across seven states, has become the bank's largest fee-income driver.
About 80% of Brand Banking's mortgage portfolio involves new purchases instead of refinance. Morgan says a majority of the growth is coming from hiring qualified mortgage officers rather than any huge improvements in the housing market.
"It's not so much the economy improving in 2012 as I'd say it is due to the type of lender we're attracting … that has a built-in book of business," Morgan says.
Bankers say that it is easier to hire displaced mortgage officers and brokers than experienced commercial officers in new markets.
"The ability to recruit talent is a bit easier, and there's less risk associated with that venture," Gabardi says. "Whereas, going into a new market on the commercial side, you've got to be dead on with talent and the team you're bringing on, and those are risks that you're taking."
Still, bankers remain wary of new mortgage compliance rules spurred by the Dodd-Frank Act and the emergence of the Consumer Financial Protection Bureau. New requirements ahead, ranging from business practices to capital requirements, could make the business less attractive.
Despite growth in mortgages in recent quarters, volumes remain low compared with historical levels, excluding refinancing and modifications. This could create a downward trend in volumes once modification initiatives such as the Home Affordable Refinance Program, or Harp 2.0, have expired.
Volumes will be "good for the next few quarters, but we're assuming a reasonable decline after Harp," George says.