Rob's Rant

I picked up yesterday's Wall Street Journal and noted with interest that Senator Christopher Dodd (D-Conn) has proposed a bill banning Mortgage Brokers from earning Yield Spread Premium on subprime loans.

I am fully aware that bills in Congress are more about elections than they are about actually fixing problems, but this could absolutely HARM the very people it seeks to protect.  Let me explain.

First, you must understand what types of companies can provide mortgages to the public. 

A Bank (think Bank of America or Chase Manhattan) has people who save money there for the purposes of earning interest, or for the conveniences of access to the money--checking and savings accounts, CDs, etc.  The Banks don't keep this money in a safe in the back, the Banks lend this money to companies and to consumers.  Some of the money lent is used for home Mortgages.  These companies are considered to be lending their own money.  They tend to be the most conservative lenders.  These companies account for approximately 30% of mortgage loans in the US.  S&Ls and Credit Unions also fall in this category. 

A Mortgage Bank (think New Century, First Magnus Financial, Countrywide) has no depositors.  It does not offer savings/checking accounts, CDs, or the like.  These companies are Lenders, however the money they lend is borrowed on Wall Street through a mechanism called Mortgage-Backed Securities (MBS).  There is nothing inherently wrong with MBS, but right now many Mortgage Banks are going belly-up or going through some sort or Reorganization due to current market conditions and due to overly-aggressive loan products.  These are the companies currently being hit by the "liquidity crunch" you keep hearing about.  Many have gone out of business in the last 6 months.

A Mortgage Broker (my current company is an example, there are many others) is simply a middleman.  The Banks and Mortgage Banks have outsourced the function of meeting the public and completing loan applications and processing them.  The Broker is a Retailer of Mortgage money and s/he does not lend money.  There is a Wholesaler involved who can either be a Bank or a Mortgage Bank.  The Broker's only job is to get the consumer the loan s/he wants.  And if a Mortgage Bank goes under, a Broker can, in most cases, move the loan to another one.

So what is Yield Spread Premium (YSP)?  Are you being overcharged?  The answer is no.  YSP is simply the mechanism used to disclose the difference between Wholesale pricing and Retail pricing.  Money, like everything else, is available both Wholesale and Retail.  The Wholesaler Discounts the rate and the Retailer marks it back up to market pricing.  Ever paid Discount Points?  That's where the name comes from.  You paid the Discount Fee in order to purchase your money at Wholesale pricing.  Wholesale pricing is not available to the public.  Not on cars, not on stereos, not on money.  The consumer just doesn't usually get to see exactly what the Retail markup is.  Trust me when I say in most industries it is much higher than the 1-2% you see on Mortgages!

My concern with Sen. Dodd's proposal is that it will aggravate the problem without helping anyone.  The Mortgage Banks are already struggling, the Banks are much less flexible--this is why they do a minority of the loans in this country.  Mortgage Brokers are the public's best bet to be able to still find the different products they need.  Remember every loan is different.  I have seen 2 radically different loans for the same client just a year apart because the client's situation changed.  Had I worked for a Bank, I would most likely have been able to help the client only once instead of twice.  Do you want to be the person who can't get the loan you need because a Senator in Connecticut didn't really understand the effects of his bill?

If this gets out of Committee I urge you to write your Congressman and Senators asking them to defeat this bill.  Removing the most flexible and helpful player in a market experiencing rapid change is the wrong answer.  Watch and see the housing slump radically worsen if this bill somehow passes.