What Is Mortgage Fallout?
A mortgage is a loan that a financial institution provides a borrower to purchase a home. A mortgage originator helps to find prospective mortgage borrowers for lending institutions. Mortgage fallout refers to the percentage of loans in a mortgage originator’s pipeline that fail to close.
The mortgage fallout number is considered a significant indicator of the originator’s ability to find new prospective borrowers looking to buy a home. A mortgage originator needs to track and forecast the pipeline of new mortgages. The mortgage fallout rate is helpful since it shows what percentage of the pipeline might not close.
- Mortgage fallout refers to the percentage of loans in a mortgage originator’s pipeline that fails to close.
- A mortgage fallout may occur for numerous reasons, including a borrower's inability to sell their home.
- The mortgage fallout number is considered a significant indicator of the originator’s efficiency.
- Mortgage originators forecast their pipeline of new mortgages.
- The fallout rate shows the percentage of the pipeline that might not close.
Understanding Mortgage Fallout
Mortgage originators can be individual mortgage brokers, mortgage companies, or mortgage bankers. They assist the prospective borrower in finding and obtaining a mortgage. Mortgage originators may not be lenders, but part of their role is to bring the prospective borrower and the potential lender together.
However, some financial institutions have mortgage originators and lenders within separate divisions or departments. The originators might prospect for new loans, which are then passed on to the lenders who calculate the financial details of the loan, gather the financial information from the borrower, and close the loan with the customer.
Mortgage fallout is calculated based on the number of loans a lender locks in an interest rate for the borrower. Once locked in, that borrower is in the lender's pipeline. However, many loans locked in by borrowers do not end up closing. Lenders can study historical data on mortgage fallout rates within various market conditions to forecast the potential mortgage fallout rate more accurately. Mortgage fallout forecasts can change as economic conditions improve or worsen. Adjusting their hedging strategy around the calculated fallout risk can help to reduce the lender's risk of loss and increase profit.
The mortgage fallout rate is also impacted by changes in interest rates since lower rates tend to spur home buying and higher rates tend to lead to lower demand for mortgages.
Why Mortgage Fallout Occurs
Mortgage fallout may occur for several reasons, such as a seller not being able to unload their home despite believing it will sell for X amount of money.
A loan’s terms may also specify that the borrower can still back out of the loan once the lender locks in an interest rate. Thus, if interest rates decrease before the loan closes, the borrower may choose to back out of the loan in favor of seeking out a loan with a lower interest rate. However, if interest rates rise before the loan closes, the borrower will likely stick with the lender as long as they are approved.
Hard Fallout vs. Soft Fallout
When a hard fallout occurs, the borrower may cancel the loan application. This could be due to a failure to underwrite the loan or when the borrower decides to abandon their application and try another lender, who may offer them better loan terms. According to Mortgage Capital Trading (MCT), a capital markets advisory firm. "To calculate hard fallout, find the difference between the total locked volume and the total funded volume of your mortgage pipeline. This calculation does not happen simultaneously but takes place over time as more loan data is gathered."
A soft fallout happens when the loan terms are changed, and those changes negatively impact the lender's ability to keep the loan in place. Most often, soft fallout happens when rate renegotiations occur. When a lender is calculating a soft fallout, the lender usually does it "on a case-by-case basis with the percentage of total profitability detriment equaling the percentage of effect on the total pull-through of that loan," according to MCT's research.
Of course, interest rates can change before the loan closes. As a result, the lender will hedge against an adverse move in interest rates by booking an offsetting transaction that benefits the lender if interest rates rise before the loan closing.
The hedge remains in place until the mortgage closes, which could be 20 to 45 days after the loan application. Once the mortgage closes, the lender can keep the loan on its books and get paid the principal and interest payments from the borrower, or the lender can sell the loan to another financial institution in the secondary mortgage market.
Example of Mortgage Fallout
For example, a borrower may seek a mortgage to buy a condo, believing they’ll soon sell a house that they already own. The sale of that house will allow them to qualify for the loan. However, if the house does not sell within a certain amount of time, they may be unable to attain the mortgage because their income and assets would not be sufficient to cover the monthly payments. This scenario became quite common in the wake of the financial crisis of 2008.
What Is Fallout Risk?
Fallout risk happens when the terms of a mortgage loan are drawn up simultaneously with the sale of a property. When mortgage loans are set up but a sale isn't finalized, the fallout risk is the risk that the sale will fall through and the loan will not be issued, even as it is in the mortgage pipeline.
What Is Mortgage Forbearance?
Mortgage forbearance is a type of temporary loan relief that occurs when a lender allows the borrower to skip your monthly payments or make lower payments for a set period of time due to financial hardship.
What Is Prepayment Risk?
Prepayment risk occurs in mortgages as the risk of a borrower prematurely paying off the mortgage in full prematurely. Prepayment risk hits lenders because, when a borrower pays off the loan earlier than the full loan terms (say a 15-or 30-year fixed loan), it keeps mortgage lenders and mortgage-backed securities lenders from receiving the long interest payments they expected to receive. If a borrower pays off their mortgage earlier, it can save them thousands of dollars in interest, which is good for them but not great for the lender. This is why many lenders make borrowers pay a penalty fee if they pay off their mortgage ahead of its schedule.
What Is a Hedged Loan?
There isn't a product called a hedged loan. Hedging is a risk management strategy used to try to overcome potential losses on an investment. For example, a mortgage lender may hedge against a change in interest rates, which could impact the loan. In this case, a lender will hedge by putting into place an offsetting transaction until the mortgage closes.
What Is the Pull-Through Rate?
A mortgage pull-through rate allows a loan originator to review their mortgage process, and by doing so, learn how to improve it for their customers. A pull-through rate assesses a few areas: customers' profiles, the level of customer service at their firm, competitors' interest rates, and the overall quality of the loans being offered. In order to get a pull-through rate, lenders should divide the number of loans approved by the number of applications that were submitted all during the same time frame.