Is technology driving profits in the mortgage business? Or are profits driving technology?

This conundrum is at the heart of the forces reshaping the mortgage industry. Profit margins in the business are extremely slim, and all participants are eager to cut costs, with automation the principal route.

At the same time, many lenders are finding that the slim profits don't provide the kind of capital needed for technological investments. For them, the payoff is simply too slow, too small, and too uncertain.

It's not necessarily a case of being too small. Large lenders may actually have a bigger problem because of the extensive amount of outmoded technology they already have in place.

"In some respects, it's easier for small or midsize companies to upgrade their technology," said Steve Hopkins, senior vice president and national sales director at Freddie Mac. "At the larger institutions, you have legacy systems that may be hard to patch."

As a result of the cost dilemma, the dream of a seamless, all- purpose mortgage system linking all participants - borrowers, loan officers, underwriters, securitizers, insurers, appraisers, credit agencies, realtors, title companies - in a low-cost, high-speed, all- purpose network is still far from being realized.

Much of the progress toward a seamless system is being contributed by Freddie Mac and Fannie Mae - the enormously successful mortgage finance agencies - and by the consistently profitable and highly concentrated mortgage insurance industry.

Both Freddie and Fannie offer their customers, at moderate cost, key elements of the system and the communications networks to integrate them.

Similarly, the insurers provide other elements of the system, including networks - which also can connect with the Freddie and Fannie networks.

Mr. Hopkins cautions, however, that connectability is important to a successful system.

"It's like when you buy an office suite of software for your personal computer," he said. "You don't necessarily like all of the programs in the suite, and you want to be able to bring in your own.

The biggest lag is in automating the loan origination process, because originations alone are not profitable and thus do not generate the revenues to support technology expenditures.

According to Mortech 96, the industry's widely followed biennial technology survey, more than 80 vendors offer originations software. None holds a dominant market share, although Interlinq Software Corp. has broken away from the pack recently. Observers say few vendors possess adequate market share to properly capitalize their research and development endeavors.

"There are still too many smaller vendors out there," said Ina Bechhoefer, president of Real Estate Solutions Inc. in Washington, which produced the Mortech 96 survey with SSP Associates, Chevy Chase, Md.

"It's a numbers game for software developers," said Scott Cooley, president of Contour Software Inc. in Campbell, Calif. "You need thousands of customers to support a full-time research and development department."

Contour, Fitech, and Fiserv Inc., among others, have committed significant investment dollars toward building next-generation origination systems that streamline mortgage document processing.

But observers say there is still a long way to go for much of the industry.

The other elements in a seamless mortgage system are in considerably better shape.

Automation has penetrated deep into loan servicing, a process that tends to be highly repetitive and involve huge volumes. Thus, it bends easily to the will of computer systems. And with servicing the most profitable area of the business, the capital available for research and development is generous.

Lenders have found a rich new vein to mine for cost reductions in servicing. They are increasingly using credit-scoring models to help them deal more efficiently with delinquent borrowers. They use automatically computed credit scores to show which borrowers are likely to get back on track and which are in genuine danger of default. This makes collections less expensive and more effective.

Indeed, credit scoring itself is proving to be an important driving force in the development of mortgage technology. Increasingly, credit rating agencies are pushing lenders to provide credit scores, which they believe are far more predictive of credit performance than the kinds of data on which they based their ratings previously.

As a result, even institutions that are not currently selling their loans into the secondary market are gearing up to collect credit scores so the door will be open for them later.

An emerging issue is whether the networks and technology developed by Fannie Mae and Freddie Mac are compatible with each other and with systems developed by third parties. The two have invested heavily in proprietary systems to distinguish themselves from each other and from other providers - and in order to compete on some basis other than price.

As a result, some observers are skeptical that they will open up their systems. But Ron McCord, president of the Mortgage Bankers Association, is lobbying Fannie and Freddie to open their technology gateways to all comers.

So the dream of a seamless mortgage system remains unfulfilled. But many say the mortgage business would be better served by allowing lenders to assemble their own systems from components of their choice, even if it leaves a seam or two.

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