Put back risk is huge for Big Banks – or is it?

Why do you think Wells Fargo is taking so much of the mortgage market?

They have the best customer service. (50%, 6 Votes)
They have the lowest rates. (25%, 3 Votes)
They have low buyer standards. (25%, 3 Votes)

Total Voters: 12

Wells Fargo reported a $2.6 billion potential loss in the second quarter (Q2) of 2012. This potential loss was the result of put-backs induced by Fannie Mae and Freddie Mac (Frannie). The risk of Frannie putting back loans has been blamed for decreased participation in Frannie-sponsored programs.

Still, Wells Fargo reported its Q2 2012 earnings increased a whopping 17% and mortgage originations increased to $131 billion, up $2 billion from Q1 2012.

What’s going on here?

first tuesday take

It seems Frannie-required put-backs have had less effect on Wells Fargo’s profit margins than expected. Even considering their $2.6 billion in put-backs, Wells Fargo reported a $4.6 billion profit in Q2, and continues to lead the market in mortgage originations. Put-backs do not translate into a loss until the home is foreclosed or sold for a discount in a shortsale.

Like the other Big Banks, Wells Fargo attempts to reduce its put-back risk by largely refusing to grant Home Affordable Refinance Program 2.0 (HARP 2.0) refinances to loans with loan-to-value ratios (LTVs) over 105%, unless Wells Fargo already services the existing loan. This refusal to consider home loans not already serviced by the refinancing bank greatly reduces the competition among Big Banks, inevitably leading to higher rates and fees for homeowners.

Related article:
Put away your putbacks, Frannie
Critics demand fewer HARP 2.0 restrictions

This profit report reveals that Wells Fargo (and very likely all other Big Banks) has quite a bit of financial wiggle room to participate more fully in HARP 2.0, regardless of the put-back risk, which clearly has a negligible effect on their profit margin.

Of course, lenders are inherently averse to contemplating any action which may affect their bottom line (for an example, look no further than the enormous shadow inventory hoarded by lenders in an effort to avoid reporting losses). Thus, expect the put-back risk to continue as the excuse of choice for lenders avoiding risky loans, as it’s not the economy’s best interest lenders have in mind, but their own.