We have been talking about a truly digital mortgage for some time, and it seems we may finally be getting close. Digital signatures, electronic recordings and even online notarizations are pushing originators nearer to a digital reality, which will have stunning implications for future generations of mortgage consumers. Yet a parallel innovation taking place in the secondary market is no less revolutionary – even if it might escape the wonder of the average home buyer.
The digital trading of whole loans in the secondary market is inevitable, and it’s already starting to happen. Loan buyers and sellers have discovered huge advantages with online trading via digital platforms. While there are still challenges to overcome, several providers have emerged in the online secondary trading market in recent years.
Getting over the hurdles
So far, the benefits for sellers using digital trading have been overwhelmingly positive, but there have been some speed bumps. For most sellers, the challenge with technology initiatives is prioritizing them. With the increasing presence of technology in the industry, organizations of all sizes are typically taking on more than one IT-related project at a time. Online platforms do require sellers to weigh the need to adopt digital trading ahead of other IT projects, such as developing consumer-facing tools, moving to a new accounting system or incorporating a new risk management tool.
Refocusing the capital markets team on new processes is another challenge. As simple as the technology may be for some to use, most teams are highly dependent on homegrown spreadsheets and need to integrate online loan trading into their process. Prior to online trading, most organizations used spreadsheets and email to sell loans, neither of which is very efficient or safe. Organizations also need to develop new practices and ensure everyone follows them consistently.
The benefits of online trading far outweigh these temporary hurdles. The single-biggest advantage is efficiency. This efficiency is rooted in the platform’s ability to translate data; obtain pricing information from bidders, GSEs and PPEs; and transfer data in the form of LOS write-backs, all in a platform that is easy to use and improves decision-making. Without an online platform, a seller looking to place loans up for bid would have to email the loan details to hundreds of buyers just to get a few bids.
Not only does online trading provide sellers with much shorter time frames, but it also allows them to find out what types of products buyers are looking for so they can approach the trading process more strategically. Sellers can upload their alternative models, then see if the bids they receive exceed expectations, then view the data that shows lift over model by loan type.
Many financial institutions weighing online trading are concerned about losing control over their relationships. In practice, however, the opposite has been true. Online trading has brought sellers and buyers closer together as they communicate in real time because both are looking at the same data simultaneously. We see this resulting in deepening of relationships in much the same way that social media or texting draws people together.
Another misconception is that online loan trading means “it’s all about price,” not relationships. That’s also not true. Sellers are not required to sell based on highest bid and may choose for other reasons to deliver to bidders at any value. If due diligence or ease of delivery is more important than price, sellers can reward or handicap bid values in determining who should receive the loans. Buyers can respond to counter-bids and look for opportunities to expand their relationships through exceptional service delivery.
There is also commonly held belief that moving loan trading activities to a digital environment is somehow risky, even though errors are much more likely when there are manual processes involved. In truth, digital loan trading is much safer than traditional trading. Most institutions gain stronger levels of data security and redundancy than they could maintain on their own. In addition, data encryption protocols that are applied both when loan data is sent and when it is at rest make online trading much safer than email.
Online trading platforms make it easier to form and maintain relationships with buyers. Users can use bid tools to decide who to do business with. Once a relationship is formed, they can use additional tools to target certain loans to the best buyers. Online trading platforms can also create valuable insights by tracking and reporting performance metrics over time.
By comparison, navigating a constant stream of incoming emails and phone calls can be even more tense and nerve-wracking than online trading platforms. Combining online trading with connections to pricing, risk management and LOS platforms gives everyone a sense of calm that the data is accurate and efficiently communicated. Not only that, but the trade that previously took two to three hours now takes only 10 minutes.
Improving buying efficiency
Digital trading platforms provide the most accurate loan pricing data possible because every price is tracked anonymously. As a result, buyers and sellers can use online trading platforms to access “color,” or the price at which comparable loans are being traded. Prior to being able to access these tools, buyers had to rely on word of mouth to determine where they stood with respect to the seller’s other delivery options.
Like any other traded product – stocks, bonds, oil, currency – buyers can simply look up market prices and adjust their strategies client by client, loan by loan. Pricing color also enables sellers to instantly analyze bids from multiple buyers, which makes the decision-making process incredibly simple. For both buyer and seller, the goal shifts from obtaining best execution to getting optimal execution, based on strong relationships supported by complete and accurate data.
Like sellers, buyers that use online trading platforms are also able to achieve much greater efficiencies. One tape format allows buyers to pick up five, 10 or 100 loan offers simultaneously in a single spreadsheet, with no need to crack the tape or transform the data. So-called “odd lots” are easy to respond to, and shadow bids require no formatting changes. And of course, pricing color reports allow quick fixes to pricing algorithms. Online trading platforms also facilitate compliance. By being able to issue one bid across multiple sellers, buyers can maintain standardized data and integrate data across all of their internal systems.
Reinforcing compliance and security
If you consider all we do to protect information in the mortgage industry, it seems remarkable that we continue to email spreadsheets containing borrower names, addresses, credit scores, debt levels and other personal information to each other, sometimes password protected, sometimes not. How are we getting away with this? All borrower data is fully encrypted behind the world’s leading firewall and anti-hacking technology. A full audit trail on every trade is available, supporting full compliance with any internal or external reviews of loan trade history.
From a compliance standpoint, secondary market participants must also be assured that their data and their transactions are protected by state-of-the-art tools and the best-available data encryption technologies. They should provide data redundancy capable of managing an unlimited number of loans – each with hundreds of data elements – and offer full data recovery capabilities in the case of a disaster. Online trading platforms make this possible at a fraction of the cost financial institutions would bear on their own.
So, how effective is online loan trading? From our experience, the debate over “platform versus spreadsheet” is pretty much settled. Our company’s platform has grown from 12 to 100 institutions in less than two years, with over $1 billion traded monthly and growing. While the transition to digital loan trading is still in progress, it is clear to us that the market is ready.
Digital trading platforms are not simply being used for trades, but also as tools for integrating data across other platforms. Bid tape data, data from other traders, market data, and securities pricing data can be accessed by a user’s PPE, LOS, hedging and advisory systems, and trade databases. In essence, these platforms have the potential to transform the secondary industry into an integrated marketplace, where communication among secondary marketing participants is incorporated within all of a company’s trading partners, systems and data sources.
Online trading platforms can also become a dense database of whole loan activity, accumulating loan and trade data from its users and the market. By managing whole loan data, digital trading platforms can be leveraged for applications and insights, such as identifying trends and opportunities, running “what if” analyses, and adjusting pricing decisions to achieve better execution and improved portfolio returns.
As more secondary market participants look to technology to support the trading process, the adoption of digital trading platforms is moving quickly. Similar to the origination of a digital mortgage, we see the same thing happening in the secondary market. In fact, we believe digital trading will eventually become the primary method of selling whole loans.
John Ardy is the CEO and co-founder of Resitrader, a Calabasas, Calif.-based provider of whole-loan mortgage trade management software. Prior to Resitrader, he was a member of the executive management team at Equator, a provider of Internet-based software to banks and government entities and a leading provider of default servicing solutions for the mortgage industry.