(As originally published on National Mortgage News)
Bank failures are regular, if thankfully infrequent, occurrences. Between 1996 and 1979, for example, there were 4.3 bank failures per year, according to Pew Research. That number decreased to 3.6 per year between 2015 and 2022. However, the rapid collapse of SVB, Signature and First Republic – three of the four largest bank failures in U.S. history (Washington Mutual was the largest) – in the course of less than 60 days came as a shock to the banking ecosystem. These failures reinforced the importance of a holistic enterprise-wide framework to manage risk and have already resulted in calls for increased financial and regulatory scrutiny for banks, mortgage companies and fintechs.
Mortgage Bankers Association president, Robert Broeksmit voiced his concern about the new wave of regulation that he sees coming during the recent Secondary Marketing Conference in New York City. Broeksmit ascribed the banking failures to the banks' "unique business models, their corporate mismanagement of interest rate risk, and their customer homogeneity."
Nonetheless, he warned: "Some policymakers are pushing for a slew of new rules on completely different parts of the economy. We're talking about one-size-fits-all mandates that will do extraordinary damage. And let me be clear: They're likely to impact companies like yours, even though you had nothing to do with these bank failures."
What's coming?
What can financial institution and non-bank mortgage lenders expect from regulators? Depository institutions can expect closer scrutiny of financial positions and investment strategies. We'll almost certainly see a push for more oversight by both federal and state authorities of risk management at nonbanks – not just mortgage banks, but fintechs, hedge funds, crypto, etc. The Financial Stability Oversight Council has already proposed rules that would facilitate the designation of nonbanks as systemically important, subjecting them to Federal Reserve supervision, and an "analytic framework" that it would use when evaluating a company's "potential risk or threat to U.S. financial stability."
There will also most likely be more focus in the traditional and evolving compliance areas: for example, bias, fair lending, servicing loss mitigation efforts and unfair, deceptive and abusive practices. Many of these initiatives such as the PAVE Task Force (an interagency task force on property appraisal and valuation equity), were underway before the crisis and are just now taking concrete shape.
Earlier this year, the Consumer Financial Protection Bureau began to take steps to ramp-up its compliance supervision of nonbanks and will continue to do so.
Fair lending examination, supervision and enforcement are top priorities for the CFPB, the prudential regulators, DOJ and HUD. Redlining, underwriting, pricing, appraisals, and even AI decisioning are primary focal points.
In early June, the White House unveiled a new plan to combat racial bias in home valuations. The plan will, among other things, require lenders to ensure that their automated valuation models don't produce lower valuations for minority homeowners and buyers. Six regulatory agencies have since produced a 141-page plan to standardize AVM quality control. As part of the announcement, the agencies said: "[I]t is important that institutions using AVMs take appropriate steps to ensure the credibility and integrity of their valuations. It is also important that the AVMs institutions use adhere to quality control standards designed to comply with applicable nondiscrimination laws."
Servicers are also coming under increased regulatory scrutiny. The CFPB, for example, recently issued a report that was critical of mortgage servicers, noting its "examiners have identified old and new ways that mortgage servicers attempt to run-up unlawful fees that are charged to homeowners." They include excessive late fees, unnecessary property inspections, "fake" mortgage insurance charges and failing to waive fees during forbearance.
Also on the servicing front, several regulators and investors have recently extended aspects of their COVID-19 deferral and forbearance programs and have warned servicers that they expect them make every effort to avoid foreclosures.
Lessons
There are lessons to be learned from the recent bank failures that go beyond mid-tier banks and are relevant for nonbank lenders, credit unions and financial institutions. Perhaps these takeaways would include some of the following:
Market conditions may be a competing challenge (and this is certainly the case with mortgage, which is going through a very rapid, cyclical downturn), but risk, in all forms, can never be de-prioritized.
There is a need to ensure that compliance and risk management teams are fully staffed and supported at the highest levels of the organization. This can be a challenge when mortgage banks and financial institutions are reducing headcounts. The OCC's 2023 Bank Supervision Operating Plan specifically notes "Examiners' reviews of bank governance should assess the effectiveness of talent recruitment, training, retention, and succession management processes. Weaknesses in talent management processes could lead to control breakdowns, untimely completion of material audits or other reviews, or failure to comply with rules and regulations that leads to customer impacts."
Data and analytics and advanced compliance systems are essential in preventing "failures" in the broadest sense of that term – not only catastrophic financial events, but major significant compliance problems that can create reputational damage. Data is a strategic asset, enabling deep insight into customer behavior, and informed decision-making. It also is essential in meeting compliance obligations, a core element in risk management and can be a competitive differentiator. Better data and analytics and dashboards can provide greater transparency for your C-Suite and Board. Data can also provide early warning signs for major lending issues, such as redlining, appraisal bias or to identify practices that could be deemed unfair or abusive. The goal should always be to identify these issues before regulators do.
Being more digital can also reduce lending and operational risk. At the end of last year our company surveyed leading banks and found that 85% of respondents still use manual processes and spreadsheets sometimes or often. Only 9% said they don't.
In our 2022 Wolters Kluwer "Regulatory and Risk Management Indicator" survey, which calculates what we can call a "pain index," 59% of bank respondents said managing risk across all business lines was their top concern. This was followed by maintaining compliance with changing regulations (58%) and keeping track of changing regulations (55%). It probably isn't a big leap to assume that these pain points are about to get more painful not just for banks, but for mortgage lenders, of all types, as well.
