Academic journal article ABA Banking Journal

Flights from Fancy: Burned by Subprime and Exotic Mortgages, Home Buyers Look to Traditional Banks and Plain-Jane Products. the Experiences of Four Community Banks Tell the Story

Academic journal article ABA Banking Journal

Flights from Fancy: Burned by Subprime and Exotic Mortgages, Home Buyers Look to Traditional Banks and Plain-Jane Products. the Experiences of Four Community Banks Tell the Story

Article excerpt

[ILLUSTRATION OMITTED]

It may be premature for all community banks to stock up on fatted calves, but anecdotal evidence suggests prodigal consumers are returning to hometown lenders. Borrowers lured away by the fancy offerings of nonbanks and specialty players now seem to realize that those cheap loans came at a very high price. Subprime lending wreaked havoc from which the housing market still suffers. Irvine, Calif.-based RealtyTrac reported 2.8 million foreclosure filings in 2009, up 21% from 2008 and 120% from 2007. Residential mortgage originations dropped 17.7% in the third quarter of 2009, according to the Mortgage Bankers Association. Commerce Department figures show that new home sales fell in December to an annual rate of 342,000, a greater decline than economists had predicted.

Yet regulated banks and savings institutions made very few subprime loans; most local community banks made none. An ABA survey conducted among 248 community banks in the fourth quarter of 2007 found that most were focused on prime lending, principally conforming loans. Respondents held 68.5% of their loans in portfolio, with the remainder sold into the secondary market. Fixed-rate loans accounted for 76% of loan production.

Having eschewed toxic debt, community banks are well positioned to assume business previously lost to free-wheeling lenders-as even federal regulators implicitly concede. Last year, the FDIC established an advisory committee on community banking, which met earlier this year to discuss "Community Banks as Growth Engines."

Have more of them taken advantage of the vacuum as customers sidelined specialty players? The most compelling evidence is first-hand accounts from community bankers themselves. In this report, we present the experience of four community banks--some commercial, some savings institutions--in the mortgage origination business.

1. FIRST SHORE FEDERAL

Maryland

A niche player grabs share

The local residential real estate market for First Shore Federal Savings and Loan Association, Salisbury, Md., is fairly flat in property transfers. Yet the $330 million-asset thrift grew its business in 2009. "Our total loan growth was about 10% for the year," says Martin Neat, president and CEO, "and that was certainly not from a lot of refinancing and not from growth in the local market. Without question, it's from getting a bigger piece of the pie."

Neat says more and more customers seem simply to recognize the value of community banks. "I think they're getting the message--more than perhaps they did in the last few years," he observes. He also mentions that he has received comments from customers who say that in the past, the bank would not have gotten a shot at a loan because the customer would have gone to a broker instead.

First Shore Federal attributes much of its success to being a niche lender. "We hold our loans; we don't sell them," Neat explained. "So we're not going to make a lot of 30-year, fixed-rate loans at current rates because that's just not good business. We tend to look for shorter-term loans." First Shore Federal does a brisk trade in jumbo loans, which investors mostly stopped buying after the credit crunch, as well as 10/1 hybrids (fixed for ten years, then adjustable annually). "We look for places in the market that we can compete in without having to guarantee the present rate for 30 years," he said.

When other segments of the industry relaxed underwriting standards, First Shore Federal did not--a decision that proved wise. "At the end of last year, we had five properties either in foreclosure or in-substance foreclosure out of 1,600 loans, and that actually reflects some deterioration," Neat said. "Earlier in the year, we had only one. I don't consider five to be alarming."

What he does find alarming is that the bank may be forced to change its practices to accommodate regulatory changes. …

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