Wells to Test Market for Sale of Servicing Rights: CFO Sloan

Wells Fargo (WFC) is exploring the sale of some mortgage servicing rights because the market is flush with potential buyers and it sees little opportunity to cross-sell many servicing clients.

Chief Financial Officer Timothy Sloan said this week that now is a good time to sell because, with banks under regulatory pressure to shrink their servicing portfolios, nonbank firms are eager to grab more market share. Firms such as Walter Investment Management (WAC), Nationstar Mortgage and Ocwen Financial (OCN) have been aggressively buying banks' servicing portfolios in recent quarters and all say they want to do more deals.

"An industry has been created that wants to buy mortgage servicing rights, and so the market's much more attractive from our perspective," said Sloan, speaking at Barclays Global Financial Services Conference in New York Monday.

Sloan said that Wells — the nation's largest mortgage servicer — intends to "test the market" sometime in the next few quarters so that it can become familiar with the sales process in case it decides to pursue a larger sale down the road. He added that an initial sale would be small and would mostly include servicing rights it holds for "mortgage-only customers" that have no other relationships with Wells.

While lucrative, the mortgage servicing business has become less attractive for banks in the wake of the housing crash. The biggest challenge has been servicing defaulted loans -- particularly those guaranteed or insured by the federal government through Fannie Mae, Freddie Mac and the Federal Housing Administration — and many banks wound up in hot water with their regulators for their improper handling of foreclosures.

Proposed capital rules are also driving banks to scale back in mortgage servicing.

Under Basel III capital requirements, the maximum value of mortgage servicing rights that be counted toward a bank's Tier 1 capital is 10%. The big worry is that banks will have to set aside more capital for mortgage servicing rights and also could incur exorbitant penalties if servicing assets exceed the 10% cap.

Speaking at the Barclays conference, Denmar Dixon, vice chairman and executive vice president at Walter Investment, said that while capital requirements are a concern, the inability to cross-sell is emerging as the key reason why large banks are shrinking their servicing portfolios.

"We're seeing not only Basel capital [rules] as a driver," Dixon said. "But the biggest [reason] is really the depositories' move from a core to a non-core focus on their client base. If they're not looking to cross-sell a client other products like credit cards or checking accounts, they really don't see the benefit of servicing that relationship and taking the reputational risk."

Walter, which operates specialty servicer Green Tree, has bought more than a million in customer accounts from big banks, primarily Bank of America (BAC). The Tampa, Fla., firm has been on an acquisition binge in the past year, transforming itself from a small real estate investment trust to a top mortgage originator and servicer.

In January, Walter closed on a deal for the origination and servicing assets of Residential Capital Corp., the former GMAC unit, and also acquired a $93 billion portfolio from Bank of America for $519 million.

Walter currently is working on a "capital heavy vehicle," to fund the company's growth, Dixon said, but he provided few details.

Dixon, who spent 24 years at Bank of America before retiring in 2008 as a managing director, conceded that Walter "had a bit of a digestion period" earlier this year as it took over 552,000 customer accounts, primarily from Bank of America. It now has roughly 2 million customer accounts.

But Walter also has benefited from a huge surge in volume for refinances through the government's Home Affordable Refinance Program, where margins have been particularly strong, Dixon said.

The company also has become a major servicer of reverse mortgages even as B of A, MetLife and Wells Fargo (WFC) have all exited the business. In April, Walter bought a $12 billion portfolio of reverse mortgages from Wells Fargo.

Mortgage servicing continues to deliver strong earnings and solid margins, and with the economy improving, fewer borrowers are becoming delinquent. The expansion of some government programs also provides future earnings opportunities, Dixon said.

"Things like the job market strengthening and home price appreciation all bring delinquencies down and make our book more profitable," he said. "On the flip side, if we're wrong and the economy rolls over to the negative side, that's not bad for our business either, in fact, we'll do really well."

Ocwen Financial, the Atlanta special servicer, also acquired a large chunk of the Residential Capital portfolio and recently said it would buy $78 billion of mortgage servicing assets from OneWest Bank for $2.5 billion.

In its presentation at the Barclays conference, Ocwen suggested that there would be more opportunities for it to acquire servicing rights, particular for loans that are in default. In a slide presentation it said that banks are "still in the middle- innings of the meltdown with serious delinquencies, loans in foreclosure and real estate-owned properties approximately the same as the average over the past four years."

Ocwen estimates that $1 trillion in mortgage servicing divestitures of servicing rights will change hands in the next few years. Banks are driven by the desire "to improve their consumer franchise, reduce costs and mitigate compliance burdens," Ocwen said.