A wave of bankruptcies in the U.S. mortgage industry appears to be unfolding after a sudden surge in lending rates, expected to be the worst since the housing bubble burst 15 years ago.
This time there was no systemic collapse because there was no similarly high level of over-lending, and many of the biggest banks pulled out of mortgage lending after the financial crisis.
But market watchers still expect the spate of bankruptcies to be enough to trigger a surge in industry layoffs and possibly a rise in interest rates on some loans.
Bankruptcy incidents are frequent
Mortgage lender First Guaranty Mortgage Corp fired the first shot of the industry’s crisis, filing for bankruptcy protection on June 30, saying it had laid off 80% of its staff and stopped making new loans.
Lending in the U.S. mortgage industry contracted once interest rates began to climb, court documents show. First Guaranty said the company has issued far fewer mortgages this year, or only $5 billion to $6 billion in new loans.
Chief executive Aaron Samples said that meant the company could no longer find enough new loans to bundle and secure enough financing to stay afloat. The company entered bankruptcy protection with more than $473 million in debt, much of it from the banks that fund its residential mortgages.
Sprout Mortgage, another mortgage company that collapsed, informed more than 300 employees of the collapse on a July 6 conference call. Sprout had made several rounds of layoffs in the months before that.
Non-bank institutional capital shortfall
Berkeley Haas, chair of the Real Estate Group at the UC Berkeley School of Business, said non-bank lenders are undercapitalized and “when the mortgage market is in trouble, they’re in trouble.”
In 2004, only about one-third of the top 20 refinancing lenders were independent companies, compared with two-thirds of the top 20 last year, non-bank lenders, according to data from LendingPatterns.com, which analyzes the mortgage industry.
Moreover, since 2016, banks’ market share has shrunk from about half to about one-third, according to Inside Mortgage Finance.
Unlike banks, independent lenders often don’t have emergency programs that they can tap into in times of financial hardship, nor do they have stable funds for deposits. The lines of credit they rely on tend to be short-term and depend on the price of the mortgage. As a result, when they become trapped in distressed assets, they face margin calls and possibly even bankruptcy.