The Seven Deadly Sins
By Joe Brancucci, Chairman & CEO Prime Alliance Solutions, Inc.

By now we all know the sub-prime mortgage crisis has become a global financial pandemic. Markets world-wide are a mess. As one anonymous quipster put it, "Anyone who isn't completely confused doesn't know what's going on." Even Alan Greenspan, in testimony before Congress last week, admitted how surprised he was that markets didn't self-regulate in such a way that this morass could have been avoided.

It's not that hard to figure out, really. One need look no further than the Seven Deadly Sins, discovered personally by keen fourth century thinker and writer Ponticus, who apparently lived them all before amending his ways. Placed in the context of the current crisis, each one makes perfect sense in it's own way. The average consumer lusted after homes they could ill-afford, some driven by envy of those owned by their neighbors and friends. Investors, greedy for ever-increasing profits, gluttonously gnawed through endless meals of exotic mortgage products. While we're talking about investors, let's add pride: the oft-repeated refrain, "our models accurately predict risk," can be found in numerous press accounts. Anyone who disagreed was wrathfully and regularly reminded they were wrong. Slothful mortgage origination, in the form now conveniently categorized as 'liar loans', became the rule rather than the exception. Lust, gluttony, greed, sloth, wrath, envy and pride were all on the original list, and what a list it is. There's enough in this disaster for each to fill a chapter or two of a book on the subject. Maybe someone will do exactly that.

That's not my purpose, though, just a way to give context to two simple thoughts credit unions can and are employing to directly get members past this crisis, and, in our own little way, help the economy through it as well. The first is this: all real estate is local. Prior to 1980 and the Depository Deregulation and Monetary Control Act (DIDMCA) of that same year, the majority of real estate lending was done locally by Savings and Loans that were of their communities. They knew the neighborhoods, they knew local employers, understood local economies and often knew their borrowers personally. Mortgage default and foreclosure occurred, though much less often than today. Moreover, such difficulties were typically triggered by unforeseen issues in local economies. Other than local catastrophes, housing finance hummed along quite nicely, thank you, from post-World War II until DIDMCA changed housing finance for the next 28 years, that is, until the present day.

All real estate is local. So are many credit unions. The model that worked so well for the S&L industry, that they intimately 'knew' their environments, is the credit union model. One of our biggest strengths, and one of the reasons our lending portfolios perform well even in markets such as today's, is that we know our members and we're well-acquainted with our communities. What I am suggesting isn't radical. I'm suggesting we keep doing what we were chartered to do, only better. I'll get to the idea of better in a moment.

The second simple idea is this: all mortgage loans are personal. The mortgage industry began forgetting this as early as 1999, the year that will come to be known as the beginning of the sub-prime crisis of 2007, but that's a subject for another day. Lenders and investors forgot first, followed by borrowers who developed selective amnesia. What happened seemed subtle at the time, yet it's profound: rather than seeing a home as shelter, everyone began to see houses as investments. Homes as shelters turned into houses as investments. Average homeowners became real estate speculators. The mortgage industry, with it's whale-like appetite, was more than happy to oblige with perceived inexpensive financing. While this might seem a 'chicken or egg' argument, it really isn't. Easy financing came first, Joe lunchbox as real estate speculator soon followed.

All mortgages are personal. By and large, credit unions didn't forget this simple fact either. How many members who were interested in buying a home way beyond their means came to you during the go-go days? How many of these did you turn away, only to have them finance their 'dream homes' elsewhere? How many have come back to you recently for help? All mortgages are personal because housing is, too. Houses aren't mere investments, they are homes that provide shelter and build community. Responsible lenders finance them with loans that are long-term affordable and wholly sustainable. Sounds like the definition of a credit union to me.

A moment ago I posited that we should keep doing what we're doing, only better. Getting deeply into 'better' could be the subject of another book on the subject. It is, in fact, the subject of two of the CU Housing RoundTable's 2008 White Papers. One, entitled 'Post Sub Prime Housing Finance' explores important environmental factors of this brave new lending world. The second, 'Appoint a Housing Czar' suggests that every very successful mortgage lending credit union has someone who is passionately responsible for housing finance, their 'Czar'. Providing suggestions on fostering an environment to support such an individual as well as what to look for in a Czar, are its twin topics. Both will be available November 3 on the CU Housing RoundTable's website www.cuhousingroundtable.com.

Everyone's heard of the Seven Deadly Sins. Familiar with the Seven Virtues? While not all apply to organizations such as ours, turns out credit unions were chartered to practice more than a few of them, something we regularly do. Getting through and beyond the current crisis requires we stick to doing what we do well, then doing it better. Have suggestions? Drop me an email at jbrancucci@becu.org.

An Object in Motion
By Joe Brancucci, Chairman & CEO Prime Alliance Solutions, Inc.

The first half of Newton's First Law of Motion states simply, "an object in motion tends to remain in motion." Abundant examples of this fundamental Law are all around us. How about the stock market? One of us asked on a recent day how the market was doing. The response, "the market's trading in a fairly narrow range today." "How narrow?" "Plus or minus 200 points."

While the stock market appears to have settled down somewhat, there's another market in motion that, as a group, we need to pay attention to. FHA Lending began it's recent growth spurt in January of this year. Prior to its recent surge, this type of government lending was the sleepy backwater of the mortgage business. From 2004 through 2007 it obeyed the other half of Newton's First Law: an object at rest tends to remain at rest. At it's low point, no more that 3.77% of all homes were financed with an FHA loan. That was the case in 2006.

We all know what was happening in 2006. The Sub-prime market was booming. We've talked about this before: FHA financing was practically extinct. The GSEs recorded some of their lowest market shares in years. The private markets, feasting on exotic mortgages, grabbed all the attention and most of the loans.

When fortunes reverse, though, they tend to do so rapidly. This would seem to be at odds with Newton's notion about motion. Objects in motion that hit a brick wall, well, they tend to remain at rest. And so it is for sub-prime lending and the private securities market. May they rest in peace.

Back to FHA Lending. There's no brick wall in its way. This is the original insured, low-cost, affordability product. For years it was the loan of choice for first-time homebuyers for this very reason. It's popular again for similar reasons, and one new one: FHA loans are perceived by borrowers as safe and sustainable, in addition to being affordable.

There's another contingent that's latching on to FHA lending: former sub-prime lenders in need of replacement products. And profits. The fact is much of the 23% market share FHA commanded as of July is a result of mortgage brokerage activity. This is market share credit unions should be pursuing for the simple reason that FHA lending is a superior means of helping more members become homeowners more affordably. We know we'll offer a more affordable alternative to government financing, we simply need to get involved. Now. Remember the second half of Newton's Law: objects at rest tend to remain at rest.

FHA Lending is Strategy 14 of the 18 Strategies. It suggests you do three things concurrently. First, get educated. For instance, visit www.consultsms.com. FHA lending is different than the conventional conforming and portfolio lending we're accustomed to. Second, start the approval process now. Visit www.fha.gov. Yes, it's difficult, it's nitpicky and it's time consuming. Most things worthwhile are somewhat challenging. Third, while getting educated and approved, consider partnering with a third party who is in the business of helping other lenders get involved in FHA lending.

We need to get in motion. Anecdotally we've heard FHA market share is now approaching 50%. While that may be high, there's no doubt it's growing. This object is in motion, and we know what that means.

Effective Loan Portfolio Management
By Nizar Hashlamon, VP Prime Alliance CU Loan Servicing

Real Estate Lending is becoming the principal business activity for many credit unions with the loan portfolio being the largest asset and the predominate source of revenue. Managing this valuable asset is fundamental to credit unions’ safety and soundness.

Real estate loan portfolios carry a number of risks. Credit, interest rate, concentration, liquidity and underlying collateral value are often cited as the most significant of these. The final risk, collateral value, is especially pertinent given the historic decline in housing prices many parts of the country have experienced.

For decades, good loan portfolio managers have concentrated most of their effort on prudently approving loans and carefully monitoring loan performance. Although these activities continue to be the foundation for a portfolio that performs well, it’s no longer enough. Now is the time to take additional steps that pave the way for corrective action before real, perhaps systemic problems potentially develop. In addition to all other portfolio management issues currently used, it’s time to add regular underlying collateral (property) valuation.

To manage their portfolios, credit unions must understand not only the risk posed by each loan but also how the risks of individual loans and portfolios are interrelated. These interrelationships can multiply risk many times beyond what it would be if the risks were not related. Until recently, few credit unions used portfolio management concepts to control credit risk by obtaining a credit score on the entire portfolio. Better technology and easier access to information have opened the door to better risk management methods. A portfolio manager can now obtain early indications of increasing risk by taking a more comprehensive view of the loan portfolio. Currently, many credit unions view the loan portfolio in segments and as a whole and consider several factors in addition to the traditional credit scoring in determining the risk:

• Collateral Risk assessment including current value
• Current Loan to Value
• The vintage of loan production
• Current Credit Score of the member
• Loan type
• Loan propose

The current continuous decline in home values forces the collateral valuation element to take main stage in determining these risks. Now more than ever borrowers’ willingness to pay in many occasions is impacted by the current value of the property.

To meet this need Prime Alliance in partnership with Prime Valuation Service, Inc have created an affordable turnkey solution that allows credit unions to have collateral evaluation and analysis performed on the entire portfolio. The model provides a value for each property and identifies properties with considerable risk potential based on price volatility and REOs in the neighborhood among other factors.

Through this service, credit unions are better equipped to measure the collateral risk associated with their current portfolio and can adjust their underwriting strategies and collection efforts to meet market conditions. Interested in learning more? Drop me an email at nhashlamon@primealliancesolutions.com.