The case against lowering the minimum servicing fee.

Author:Heid, Michael J.
 
FREE EXCERPT

A TOPIC OF MUCH DEBATE IN THE mortgage market today is the issue of reducing the size of the minimum service fee. On behalf of the industry, I would like to thank the Mortgage Bankers Association (MBA) for creating forums for discussion of this topic to ensure that all of the facts are carefully considered. We all know that change is ever-present in business today. However, not every proposal is a change worth pursuing. That is clearly the case with lowering the minimum servicing fee.

Wells Fargo is just one of many mortgage industry firms opposed to the proposal to slash the minimum servicing fee set by Fannie Mae and Freddie Mac from 25 basis points to 12.5 basis points. As one MBA Government Affairs staff person recently told a trade publication, servicers are divided among those who oppose a reduction, those who favor it and those who are undecided.

Many investors and brokerage firms have privately voiced concerns about the impact that such a move would have on the market for mortgage-backed securities (MBS). Some have gone public with their concerns. A major investor was quoted in a banking industry publication as saying about the proposed reduction, "Why would we want to take the world's most liquid market and degrade the securities and degrade the liquidity? There's nothing good that comes from it."

Proponents for the reduction offer a number of arguments for the change, including reduced volatility of earnings, lower capital and hedge costs, no impact on prepayments, and servicing fee alignment with servicing cost. On the surface their arguments sound intriguing, but upon examination they are found to be overly simplistic. We see the proposed reduction, in reality, as a shell game where costs and risks are merely shifted around within the mortgage finance system. In the end, consumers likely will pay the price--through an increase in mortgage rates.

A deeper dive into the issues

Earnings volatility. It is extremely doubtful that reducing the fee will--as has been suggested--substantially reduce the volatility of mortgage servicers' overall business results. While a reduction in the size of the mortgage servicing rights (MSR) asset would lower the period-to-period volatility that arises from accounting complexities and hedging mismatches, it would have no impact on the cyclical volatility of the origination business. Overall earnings volatility would actually increase, since the performance of the servicing business would no longer provide the...

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