QUESTIONS AND ANSWERS
Q: It’s not easy to become an insurance company but it’s easy to become a broker. So the question is, have you guys attacked any of that piece of it, not just the originations, but also the insurances that accompany them?
Ranieri: There is nothing that says in the same way you get his lead from online you cannot deliver all this other kinds of information online, which is normally difficult in a traditional process. Unless the consumer proactively tries to break out of the corral, it doesn’t happen. Here he’s already out of the corral; he’s online. You follow? And I think what you’re going to see is a lead may become simply a sequence of leads. The lead won’t simply be a lead for a mortgage. You might sell the lead four times to four mortgage companies; but you may sell that same lead beyond that, because as sure as God made little green apples, there will be a sequence of insurance companies or title companies who want that same information.
Q: This is a question about the Exchange that you have built. As you and I both know going way back in the lead generation business, it’s a supply driven business so if you can’t get the supply then there’s nothing to exchange. So even though I agree with Lew that this could potentially be a big win for mortgage brokers because they’re getting more leads, better leads, a price based on the real value … even though I believe it could be a win for the consumer because probably they’re getting well-priced goods and services, I don’t see any reason in the world why any of the companies out there that are generating real estate or mortgage leads would want to cooperate.
Goldstein: We call them aggregators, and they are generating supply across the industry: LowerMyBills, Nextag, LendingTree, LoanWeb, Adteractive, there’s a number of them. Many are quite good and are generating high quality mortgage leads that lenders are purchasing. The Exchange is open and available to them at minimal cost as an opportunity to discover price and to clear inventory that only has 24 hours before it goes stale. Some of them may have their own direct relationships where they’ll sell the lead once or twice, but for the third or fourth time they might use the Exchange. Most of these aggregators purchase their media inventory from publishers. A consumer of one of these aggregators is typically coming in through a search engine or a banner. The natural suppliers of this inventory are the newspapers, the search engines, the media companies, all of whom up until now haven’t really had a channel to sell leads directly through. They have had to sell impressions and trust that they are getting a fair price for their impressions relative to the value of the underlying leads they could be generating. Many publishers are indeed getting fair prices, but there are some publishers who have relevant search terms or relevant content areas that might monetize better it they were able to go directly to our Exchange. And so we are committed to enabling both traditional publishers who are capturing the direct attention of the consumer and aggregators who, in most cases, are purchasing media to generate leads.
Ranieri: In the regular, non-refi mortgage business, that volume is not controlled by an aggregator; as an example, it’s controlled by realtors. Realtors turn those leads into money simply by, at this point, becoming a mortgage company to convert the lead into their own servicing. I think I could argue if this process is as efficient and powerful as I believe it will be, they will be a lot better off just accessing our Exchange. It will be much more cost effective. Every homebuilder in the country decided they had to become a mortgage company to capture that portion of the revenue. Our Exchange will give them the ability to exit a business they really never wanted to be in. They just want to keep that portion of the income that came from the result of building the house. This gives them a much more cost efficient way of doing that.
Q: That’s why I’m saying it’s great for the demand side but maybe it’s not so great for the supply side. If I’m a publisher and I’m making $10,000 a month from an aggregator, why should I drop them and sell leads directly to your Exchange? I think you’re going to get some resistance.
Ranieri: One of the largest mortgage companies in America at the beginning of all this was Loomis and Nettleton, and they were a monopoly. They viewed the advent of the mortgages security market as a risk, as something that was competition because in those days mortgage companies were brokers. They weren’t what mortgage companies are today. They actually simply brokered a loan between thrifts or between thrifts and pension funds. And here I was suggesting that mortgage companies become originators: get into the mortgage business themselves, take the mortgages they create and turn it into a security and sell it. So that their whole business wouldn’t be going to the Arizona Banking Conference and lining up four new thrifts to sell them into. But I was preaching heresy. And this great, giant company, Loomis and Nettleton decided “a pox on my house” and that they weren’t going to change. And unfortunately it turned out for them that I wasn’t all wrong. And there’s no longer a Loomis and Nettleton.
Goldstein: But there were plenty who adapted to the evolution.
Ranieri: It was actually good for mortgage companies. In fact, if it was bad for anybody it was bad for the thrift who wanted to show up at 10 and go golfing by 3. The mortgage companies inherited the earth.
Q: Your comments about refinance product were focused largely on refinancing to a fixed rate product, any thoughts on the option ARM product?
Ranieri: We’re talking about a very sensitive topic so I’ll just take it on head-on. Option ARMs in their original design were created for middle income, upper-middle income people who understood the nature of the risk in the option arm and for whom it worked very well because they could manage the risk. They could de-lever if they so chose. That was the issue; you could de-lever. When the option ARM started to be used as a vehicle to qualify the unqualified, it became an abuse, in my opinion. Actually, the first arm was called a floater. The first ARM structure wasn’t called an ARM, it was called a floater and the rest of us called them sinkers because in the next cycle they never ever hit par again. So an option arm in its most aggressive form where you have a 1%, then it rolls to a 1% initial for 90 days, 4% and then it rolls to fully indexed after the year. And you can choose to stay at 1 percent. Think about it. That’s an 85% loan to value and you choose to stay at 1%. In less than two years you’ll be at 115% loan to value and you can’t go anywhere. I’ll write in blood for any of you who want to have this bet with me. I will tell you there’s a 100% correlation between equity and foreclosure. Nobody lets you take a house that he has net equity in and nobody tries to stop you when he has negative net equity. So you drive a loan up to 115% in two years, unless housing’s appreciating to offset that, you are going to have an unhappy amount of delinquency and loss on foreclosure. So I think the option arms are a very useful product as long as you don’t use them for what they were never designed for.
Q: Servicing value?
Ranieri: Servicing value will follow, depending on who’s buying the servicing. Thrifts were for a very long time very naïve about the risks to certain kinds of consumer and option ARMs and so the option ARMs were 5/8’s of a point regardless of whether they were upper-middle class or being used as a way to qualify the unqualified. Then the FDIC, the regulators, the federal financial oversight group came out with guidelines and said to financial institutions, banks, credit unions and council and state insurance companies: “If you do this, I have news for you. You can do it. We won’t stop you. It’s not technically illegal, but when we come in, we’re going to ask you to do a series of algorithms and if you cap out in two years we’re going to make you write these things down; we’re going to make you take reserves against it.” And so the aggressive AM arm loans now are trading at pretty substantial discounts to the 5/8s and 3/4s of a point based on those regulatory algorithms.
(Thread 6/6 of RootExchange/s speaker series: #2 June 13, 2006 with Seth Goldstein interviewing Lew Ranieri at NY office of Root Markets)