VIRTUAL BANKING MEANS providing financial services by coordinating inputs from different contributors into final form for the consumer. There is no clearer example than the residential mortgage loan industry. The tasks of origination and funding, processing payments, accounting and servicing, and securitization and secondary marketing are functionally disaggregated to an unusually high degree.

While some financial institutions still perform all of the processing of residential mortgage loans, it is far more likely today that different companies participate in the different sections of the business. Independent mortgage brokers, or mortgage banking subsidiaries of banks or thrifts, may originate the loans. Banks may fund the loans and "warehouse" them until they are sold to secondary-market investors. Their profit comes from origination and servicing fees and from interest rate margins. About 60% to 70% of all new residential loans are "pooled," purchased by government-chartered secondary investors, and securitized into mortgage-backed securities. Servicing rights can also be traded among banks, often several times during the life of the loan.

What does this disaggregated industry structure mean for the information technologies used in the mortgage loan business?

The provision of technology to serve each participant in the process is now becoming highly specialized. Technologies used, and the sources thereof, now differ according to the economies of scale and market dynamics of each segment. There are three major sections of the residential loan business: loan origination, secondary marketing, and servicing. All require very different software:

* Loan origination. Most large banks and their mortgage subsidiaries use their own proprietary software. These applications often run on mainframe or midrange systems, although the trend is now to move origination to client-server platforms, Mortgage origination is highly labor intensive, so expanding the scale of a mortgage origination operation does not greatly reduce unit origination cost. Since the economies of scale in mortgage origination are low, tens of thousands of small, independent mortgage brokers are successful in serving a large segment of the mortgage origination market, and 90% of these use PC-based or client-server-based software supplied by vendors. Dozens of companies market hundreds of these loan origination packages, most focusing on document generation, to serve this fragmented segment of the origination software market.

The PC-based segment of the market has grown rapidly, along with the number of independent mortgage brokers. Origination software, whether marketed as separate modules or as integrated functions in a software package family, must include applications for borrower qualification, application processing, credit checking and scoring, approval and closing, and generation of the volumes of regulatory documentation required at each step.

* Secondary marketing. Most large banks use proprietary query-and-report programs for analysis of in-process and warehoused loans. These systems are used for reporting on the inventory of loans held in portfolio, managing commitments to buy and sell loans, calculating gains and losses on loans bought and sold, managing interest rate risk on loans in the pipeline, and transferring loans to secondary investors. Processing economies of scale in this segment are moderate, so these applications are still largely mainframe-based. Vendor-supplied packages are typically purchased by smaller banks and mortgage companies, and by other financial service organizations that have limited capital and funding for loans and for software used for loan warehousing and portfolio management.

* Loan servicing. Economy of scale factors are very high. Volumes are high and complexities are enormous. Specific feature-functions require loan accounting, payments processing, managing escrow accounts and payments, customer service, collections, and reporting. As a consequence, most of this processing is still largely on the mainframe. The vast majority of processing packages are vendor-supplied, and the number of proprietary mortgage servicing systems maintained by banks is shrinking rapidly -- from 25 to 30 such systems currently in place, the number is expected to drop to fewer than a dozen by the turn of the century. Servicing rights are often outsourced; 35% of all commercial banks have either outsourced their mortgage loan servicing or are in the process of doing so, and another 15% are considering outsourcing.

Even core processing packages for mortgage lending, and mortgage processing functions that are part of core banking packages, divide their functions into each of the above segments, reflecting the degree to which mortgage loan processing is disaggregated.

Since the different functions in mortgage loan processing are so widely separated, the new technologies being used in the industry focus primarily on communications among the different organizations in the process, and on speeding up data collection and transfer. Flowing "downstream" in the mortgage loan process are the loans and their associated documentation, and commitments to sell loans. Flowing "upstream" are commitments to buy loans, documentation requirements, and information on the prices and schedules at which loans will be purchased. Tying the process together requires new technologies that make it faster and more efficient.

* Laptop computers enable mortgage originators to capture and process borrower data on site. Many of the dozens of PC-based mortgage loan origination packages available today merge forms software and customer information data bases for quick production of the enormous amounts of regulatory documentation required to originate a mortgage, and capturing customer information as early as possible in the process.

* Computerized loan origination systems network together borrowers, real estate brokers, and mortgage underwriters. Mortgage origination is a time-urgent process due to interest rate fluctuations, and CLOs give borrowers and realtors real-time access to interest rate information from multiple lenders. CLOs bring accurate and up-to-date information directly to the point of sale to help borrowers choose among the myriad of financing options available. The Mortgage Analysis and Reporting System is the most recent example of this type of system.

* Fax technology is being used increasingly for transmitting rate sheets from lenders to mortgage originators, and for transmitting borrower information collected at realtors' offices to mortgage lenders for quick on-site qualification and approval.

* Image processing systems are used for organizing, compiling, and shipping the documentation necessary for transfer of loans to secondary investors and loan servicers.

Documents are scanned and indexed, their images are stored on optical disks, which are shipped to secondary investors in place of the paper documents. This technology is used to ensure that documentation is complete, and to shorten the holding time of mortgage loans in a bank's pipeline prior to shipment, decreasing interest rate risk exposure.

* Networks are operated by secondary investors for communicating with wholesalers of mortgage loans. Fannie Mae's Mornet, Freddie Mac's Midanet, and Ginnie Mae's Ginnienet are the leading examples of these networks. Loan wholesalers are provided with software for interfacing with these networks that allows them to access the secondary investors' pricing indexes and purchasing schedules on-line.

Wholesalers then know which loans in their portfolios can be sold to which secondary investors, at which delivery time, and at what price. The networks are also used by loan wholesalers for transmitting commitments to sell loans, and for sending required loan delivery forms and contracts electronically, to secondary investors.

Some other lines of business are moving toward virtual banking. Examples include trust processing, credit card processing, and consumer lending. In all of these lines of business, securitization and secondary investment are increasing. Thus, their vision of the future and of how their technology will be structured may be similar to the mortgage loan processing area. They would do well to study the disaggregation process to insure that technology investments are appropriate and are in synch with this important trend.

Mr. Teixeira is president of the Tower Group, a consulting firm in Wellesley, Mass. David Medeiros, a technology analyst at the firm, contributed to this article.

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