Jim Deitch, CMB, of Teraverde on Technology, Costs and Disruption
By MBA Insights Staff
April 1, 2019
James M. Deitch, CMB, is co-founder and CEO of Teraverde, Lancaster, Pa. Previously, he was a co-founder, CEO and Director of the American Home Bank division of First National Bank of Chester County. Under his leadership, American Home Bank was named one of the fastest-growing private companies in the United States by Inc. magazine and a top 50 national residential lender by American Banker and National Mortgage News. He has served on the boards of publicly traded and privately held banks and non-bank companies. He is a frequent industry speaker and best-selling author.
MBA INSIGHTS: The most recent Mortgage Bankers Association Mortgage Bankers Performance Report showed while lenders have succeeded in cutting costs, profitability still decreased. Do you see this trend improving any time soon?
JIM DEITCH, CMB, TERAVERDE: Costs have decreased, but so have margins. Incremental cost reduction is not a path to long-term success. As an industry, we have to be thinking about quantum reduction in cost. Why can a credit card for $50,000 of unsecured credit be granted in 30 seconds, but a $200,000 mortgage loan takes 30 days? Why can credit card cost to originate be $200 and a mortgage exceed $8,000? They are both consumer credit instruments.
The chart below looks at the history of costs in our industry and what several of our clients have set as aspirational goals.
Will we hit the goals? The right question is "under what circumstances can we achieve these goals?" That brings into play the possibilities of channel, product, funding, process and technology innovation.
There's another force at work in our industry: Disruption. The term "disruption" in its current usage was likely coined by Harvard professor Clayton Christensen in his 1997 book, The Innovators' Dilemma. Christensen described his book as focusing on "disruptive technology."
The book shows why most companies miss out on new waves of innovation. Whether in electronics or retailing, a successful company with established products will get pushed aside unless managers know when to abandon traditional business practices." Most of all, according to Christensen, "Disruption is a process, not an event, and innovations can only be disruptive relative to something else."
Disruption is already feeding around the edges of our business. Example: The "jumbo" versus "conforming spread" fell from 50-70 basis points in rate (meaning jumbo rates were 50 basis points higher than conventional) to a negative spread where jumbos now have rates lower than conventional.
Why? Some attribute large banks to "buying the jumbo market." I think otherwise. Depositories view jumbos as a wealth management product, not a mortgage loan. Wealth managers are paid on an "assets under management model," not a commission. This is disruption at work. High balance, high credit quality jumbos can be gathered by reducing rates from cost savings and passing them to consumers. That's disruptive because it cuts out commissioned originators, as well as much of the labor tied to secondary market documentation costs.
Stan Middleman, CEO of Freedom Mortgage speaks of "bad historians" who fail to look at history to learn lessons going forward. Stan commented that executives frequently do not see the disruption coming in an actionable sense. I agree. Mortgage banking executive need to think about disruption--and how they can disrupt competitors before competitors disrupt them.
Another segment of the mortgage market that is disrupting right before our eyes in non-QM lending. Non-QM lenders are innovating in products and processes that challenge the GSE model of credit and securitization. The Private Label Securitization market is rapidly maturing, and the products are being adopted by mortgage brokers. The non-QM segments will rapidly grow due to speed to market offered by brokers, as well as directly sourced data that will support cash-flow based credit decisioning. Some depositories will also adopt and adapt, and will gain market share.
The GSEs won't adapt or adopt, and as a result the non-QM market will begin reducing the GSE market share in two ways. One, the expansion of credit via non-QM products. The second way is that the GSE pricing model is broken. The Guarantee Fees are excessive, given risk assumed. The credit losses of the 2012-2018 books of business are negligible, but the G-fee remains at mortgage crisis levels. That means the Non-QM and Private Label markets will bid higher balance, high credit quality mortgages that would have been sold to or securitized by the GSEs into the private market.
The whole mortgage eco-system will undergo disruption. The question that should be on every executives' mind is, "How can I profit from this?"
INSIGHTS: You have been a strong advocate of the digital mortgage process. Are you satisfied that the industry has finally recognized the value of technology?
DEITCH: The term "digital mortgage" is not very precise, and obscures the value proposition of technology. A better term is "digital transformation," meaning improving the underlying business process by levering workflow. Jonathan Corr, CEO of Ellie Mae, notes that "many lenders have patched over process and workflow issues by throwing bodies at it." And that is what has increased the cost dramatically. Lenders have to fill the holes and the leaks with human spackle. You know there's no reason to have all that human spackle and that cost and that inefficiency."
So digital transformation starts with the question, "What experience do I want my customers to have, how can I make the process transparent, efficient and error free?" And then go do it, starting with high payoff, small steps along the path of the overall transformation plan. That's how the promise of technology can rapidly pay off.
Think of "digital transformation" as an element of disruptive business strategy. Credit decisions are made based on data, not documents. Our industry still focuses on collecting documents as opposed to directly sourced data. Why? Part of the reason is inertia. Some originators don't trust the direct sourced data process, and don't adopt it. Originators currently control access to a large percentage of borrowers, so executives tolerate this behavior.
Lack of adoption requires lenders, particularly IMBs' to support a variety of workflows and processes to serve originators and branches that insist that the lender "does it my way." This won't continue because the operating cost, process variations and loan quality exceptions kill productivity.
It's hard to see the enormous cost carried by our industry because the data is aggregated. "Our turnaround times are better than the industry average." In fact, there are wide variations in turnaround time by loan officer/processor/underwriter/close combinations, but lenders don't measure turnaround at the individual employee level.
Same for profit. A lender client was stunned to see that the contribution margin profit by loan officer varied from a loss of $5,000+ per loan to a contribution profit of $6,000 per loan. The data showed that eliminating loan officers that had more than six months of tenure and contribution loss of more than $2,000 per loan increased lender profit by $1 million.
Digital transformation means improving process by constantly measuring and optimizing process and performance results. Virtually all manufacturing industries use process and performance optimization every day. Few lenders manufacturing loans do so.
INSIGHTS: What are the consumer advantages to a digital mortgage process?
DEITCH: The consumer can achieve an experience that suits their preferences, save time and cost. Mortgage banking is a form-based industry back to its beginning. Mortgage approval relies on data from the forms. Why not go right to data? Direct access to asset, income and collateral data will be a significant advantage for customers. Grant the lender the right to access data directly, and speed increases and costs decrease. Once consumers get used to speedy and easy credit decisions in mortgages, they'll rapidly adopt.
Consumers expect speed and convenience. Credit card and auto loan decision are rendered in 30 seconds. A mortgage, 30 days. Why? My advice: disrupt your own business before someone else does it to you.
Customers will rapidly adopt a better process. iTunes, Netflix and Amazon provided speed, ease of use and efficiency and consumers adopted quickly at the expense of the music retailers, Blockbuster, book stores and retailers in general.
Uber and Lyft provide a living example of disruption on a segment of the financial services business. Uber arrived on the scene in 2015 and ridership of traditional Yellow Cabs fell precipitously. New York City as well as Chicago, Boston, Philadelphia and other cities regulate cab hailing via "taxi medallions." Uber's ridership surpassed the New York Yellow Taxi ridership in May 2017. This feat was accomplished in about two years. Other ride services such as Lyft, Juno and Via have entered the New York market to capitalize on Uber's market expansion success.
The increase in competition has benefited the New York consumer; the total number of individuals using a form of ride services, in the form of a yellow taxi or other for-hire vehicles, has increased by 40% and fares have fallen.
INSIGHTS: The product you created, Coheus, allows lenders to identify profitability and efficiency per loan. What led you to develop Coheus?
DEITCH: The name Coheus arises from the Greek mythology Titan, Coeus. Coeus could use information to foresee the future. Many of our customers kept asking us to develop reporting and analytics that permitted access to the vast array of information in their LOS, general ledger, hedging and servicing systems. Our clients told us that they wanted to gain profit intelligence from association data within and among these systems. We found there wasn't any solution that met their needs, so a team of employees led by Maylin Casanueva went to work, and Coheus was the result of their efforts.
Coheus goes beyond cost per loan--Coheus lets users look at cost per loan by product, loan officer, channel, branch. Also how long it takes for each step in originating a loan and identified variations among employees, departments and branches. Along with looking at the credit box, employees, channel and branch for loans that default or pay off unexpectedly. Coheus helps model and explore the possibilities of channel, product, funding, process and technology innovation. It provides profit intelligence that can be used for constant improvement of process and profitability.
INSIGHTS: For some of your Coeus clients, has that variability of cost per loan among branches, etc. products been noticeable?
DEITCH: What's been interesting is that many users of Coheus are not only startled, sometimes go through the Kubler-Ross grieving process. Anger, denial, surprise and then acceptance. Data driven analysis identifies the broad variability in profit of loan officers, AEs, products, channels and operational process. Data challenges strongly held belief about the relationship between loan volume and profitability.
The mortgage banking industry generates a prodigious amount of data. And that data can be used to evaluate processes, people, product, profitability, efficiency, customer satisfaction.
The best part of Coheus is the actionable profit intelligence. The data comes from lender systems, and can provide incredible insights into where a lender's profitability arises...and where there are opportunities for material improvemne.t
What is startling to me is that so much profit intelligence is locked in lenders' systems. Industries as diverse as the airlines, credit card and major league baseball all use data-driven decision making. It's been very slow to come to mortgage lending.
INSIGHTS: Looking ahead, are there any obvious solutions for lenders that still aren't being deployed?
DEITCH: The most amazing solution is to tap into the creativity of employees and partners to achieve transformative performance. I recently observed a dedicated team of employees transform an entire process in 90 days, using existing technology. The truth is most lenders are using 10, 20, 30% of a technology platform's complete functionality. Human spackle has become the norm.
It doesn't have to be that way. One company achieved 50% labor savings, 30% faster turn times and 40% reduction in defects by rethinking their entire process using existing technology. To me, that is an obvious place to start.
Finally, executives have to ask, "How can I profit from disruption?" We're in the early innings of disruption of the likes that Amazon, Netflix and Spotify have innovated in the retailing and entertainment industries. There's so much opportunity, and so much fertile ground before us!
(Views expressed in this article do not necessarily reflect policy of the Mortgage Bankers Association, nor do they connote an MBA endorsement of a specific company, product or service. MBA Insights welcomes your submissions. Inquiries can be sent to Mike Sorohan, editor, at firstname.lastname@example.org; or Michael Tucker, editorial manager, at email@example.com.)