Changing Home Lending Landscape to Impact Bank Earnings

The largest U.S. banks will be reporting fourth quarter results this week, which should give investors insights into how changing regulations are impacting bank business models.  2012 and 2013 were banner years for home mortgage underwriting, boosting profits at banks around the country.  This year, higher interest rates and stricter regulations are discouraging  refinancing’s and new loan underwriting, which has the potential to be a material drag on earnings.  The Consumer Financial Protection Bureau recently implemented new rules that provide legal protection to banks that meet loan underwriting guidelines, but exposes them to legal liabilities if loans written charge high fees or require total debt payments exceeding 43 percent of the borrower’s income.  This is causing certain banks, such as Wells Fargo, to develop new divisions that will focus on non-conforming loans that will be held on their balance sheet.  While this is a way to boost profits at banks in an otherwise low volume year, it also exposes these banks to balance sheet risk with more loans held on their books instead of being packaged and sold as MBS.  Increased access to capital via non-conforming loans for those previously unable to borrow could provide a boost to the US economy in 2014.