A couple had planned to obtain a mortgage from their neighborhood bank for a house being sold by a firm that bought up properties on the cheap, remodeled them, and then sold them for a profit.
But the property investment firm warned the couple that their bank would likely consider the transaction a flip and would not grant a mortgage due to the bank’s policies on such deals. (And, furthermore, the seller wanted the transaction to close as soon as possible to reap a better return on its investment.)
The couple opted for one of nonbank mortgage companies on the seller’s preferred lender list and sure enough, the deal closed in 21 days—a timeline that their neighborhood bank likely would not have been able to accomplish.
Actually, this story isn’t too unusual anymore. Often it’s the customers who may think of the nonbank lenders first.
Not your greatgrampa’s mortgage world
It used to be commonplace for would-be homebuyers to turn to their neighborhood bank for mortgages, accepting of the fact that they would likely have to weed through a cumbersome and lengthy closing process—sometimes lasting months—to finally get the keys to their dream home.
But now many banks have exited the mortgage business altogether, due in part to tighter margins and lately more so because of stricter regulatory rules from the Consumer Financial Protection Bureau, among others.
While traditional banks remain part of the market, the industry is now dominated by nonbank lenders, particularly those that promote speedier online closing processes. In fact, much like the property investment firm in the story above, many real estate brokers now push the nonbank partners on their preferred lender lists to expedite the process for their clients.
Banks also now compete with fintech companies that have greatly expedited online mortgage closing processes. A Jan. 15 blog on Forbes.com lists a number of the most notable ones:
• Quicken Loans, which in the first five months of 2015, loaned $24.3 billion—or 7%—of the nation’s mortgage loans.
• First Internet Bank, an online-only bank offering mortgages and other services.
• Sindeo, which also uses technology to ease the mortgage process. One of Sindeo’s slogans: “We’re not a bank or a traditional broker, we’re a modern mortgage marketplace.”
The blog cites an analysis several years ago by LendingTree.com, which found that 21% of prospective home loan consumers shopped online, a trend that would likely grow as the fintech concept matures.
The fintechs’ online processes enable the firms to save money, which translates into cheaper rates and faster turnaround times. (Says the home page of First Internet Bank: “Chances are, with direct deposit and ATMs, you probably don’t visit bank branches that often anyway… so why pay for something you don’t use?”)
For example, Quicken Loans’ average application-to-approval time is 17.8 days, below the industry average of 20.2 days. [Read an in-depth report about Quicken Loans by J.D. Power here.] Late last year, Quicken Loan’s introduced Rocket Mortgage service, which can be accessed via smart phone.
Banks must change approach
If banks want to compete for any piece of the pie, they must transition from cumbersome legacy systems to more streamlined online processes.
Consultancy Rehmann, in a recent report, advised:
“By 2020, today’s traditional lenders, who are not agile, do not embrace online technologies and are unable or unwilling to become more customer-centric, could lose up to 35% market share to new and current institution and non-institution lenders.”
If banks don’t want to play directly in the mortgage market, they can instead opt to partner with fintech mortgage lenders, just like a number of banks are working with fintechs offering other consumer loan products.
Last April, San Francisco-based Prosper Marketplace announced $165 million in equity funding from investors that included SunTrust Bank, as well as units of JPMorgan Chase, BBVA and Credit Suisse. Moreover, SunTrust, BBVA and USAA Bank are working with Prosper to offer co-branded loans.
Prosper’s main fintech competitor, Lending Club, currently has co-branded relationships with Union Bank and community banks that are part of BancAlliance.
In the February 2015 report, Peer Pressure: How Peer-To-Peer Lending Platforms Are Transforming The Consumer Lending Industry, PwC outlined the pros and cons of the different ways that banks could either collaborate or compete with P2P lenders, another term for fintech lenders.
Banks can collaborate by purchasing loans from P2P lenders (more often called “marketplace lenders now”), either as a general investor or as a preferred investor, by setting up predefined investment criteria and automating the purchase transactions.
The pros of purchasing loans include the opportunity to round out a bank’s credit spectrum or acquire loans in an area where the financial institutions wouldn’t traditionally lend; the ability to apply proprietary credit risk models to analyze information provided by P2P platforms to target the best investments; an economical way to diversify without adding more staff or expanding loan servicing platform; and the addition of a new asset class that could generate attractive risk-adjusted returns.
The cons include no opportunity to build relationships with borrowers and no opportunity to cross-sell other banking products. Those have historically been important to many community banks.
Another way banks can collaborate is by co-branding products with P2P lenders through a white-label partnership, according to the PwC report.
Pros of this approach include the fact that co-branding requires less capital expenditure than building a new platform and can be operational quickly. Co-branding also leverages the P2P lender’s lower cost structure and/or technology capabilities. Finally, this strategy gives banks the ability to offer customized credit policies and pricing.
The cons include the dependence on P2P platforms for infrastructure; additional compliance risk management and third-party oversight responsibilities; and less flexibility to customize the experience than if banks were to build such platforms on their own.
“Many banks are looking for ways to grow through product innovation or new channels; the P2P lending market provides access to borrower segments that wouldn’t be accessible through traditional means,” the authors wrote. “A P2P lending marketplace can also serve as a platform to innovate new products and processes in the digital space.”
Time to get with the current generation
It’s a different world now for mortgages and banks that want to play in the market have got to find new ways to do it. They can compete directly with nonbank lenders much more effectively if they transition to online processes, as well as develop better relationships with real estate brokers to get on their preferred lending lists. They can also choose to partner with fintechs either by investing in the firms or co-branding through white-label partnerships.
However banks choose to be part of this market, would-be homebuyers are increasingly expecting any provider they choose to have expedited processes that also translate into lower rates.
This trend will only grow as more millennials begin to buy homes—the generation reared on fintech that has little patience for anything else.
If banks want that business, they had better keep up.