Earlier this week, S&P released data for S&P/Case-Shiller Home Price Indices for the period till February 2013, and one thing that was amply clear was that the recovery in the U.S. housing industry continues in full swing.  This has some rather important implications for the banking sector as a whole as the housing industry is an important source of revenue for the banks – regardless of whether they focus on retail (loans & deposits) banking services or investment banking services. After all, there cannot be a bigger evidence to support this fact than the common knowledge that the economic downturn of 2008 was primarily fueled by a bubble in the country’s housing industry.
While the banks with a traditional business model that rely heavily on mortgage lending and services such as Wells Fargo (NYSE:WFC) and U.S. Bancorp (NYSE:USB) can expect an increase in demand for mortgages if the trend of improving home prices continues over the months to come, investment banking stalwarts Goldman Sachs (NYSE:GS) and Morgan Stanley (NYSE:MS) would also look to cash-in on the uptick in the market by resorting to a fresh wave of mortgage-backed securities. As for the heavily diversified giants JPMorgan Chase (NYSE:JPM), Bank of America (NYSE:BAC) and Citigroup (NYSE:C), the situation presents revenue opportunities on both fronts – although the latter two would likely wait some more time before diving back into the mortgage industry having been burnt quite badly the last time around.
In this article, we focus on the impact of home price improvements on core mortgage banking services.
The mortgage industry saw a phenomenal increase in the number of mortgage originations over the recent years – a condition created by the extended low-interest rate environment which allowed home owners to benefit from refinancing their existing mortgages. Government-led initiatives also fed this refinancing wave. Clearly, the increase in origination volumes was not due to an improvement in the underlying housing industry itself as a majority of the originations were due to refinancing, with new mortgage applications forming just a fraction of total volumes.
But more recent quarters have seen a decline in mortgage origination volumes – a result of the refinancing channel almost running out completely. The impact of this was seen most clearly in figures reported by Wells Fargo in Q4 2012 and Q1 2013. While the bank remains the undisputed industry leader with nearly a third of the market share, there was a sequential reduction in originations over the last two quarters.
New home loan applications are now the only growth avenue left for the mortgage business. And if home prices continue to improve, the banks can hand out more mortgage loans to customers looking to buy homes at lower risks. This should spurn origination volumes in the future, something we represent in the chart below for Wells Fargo.Notes: