Rising investor demand for safe-haven securities is heating up the secondary reverse mortgage market, at the same time as stricter underwriting standards are keeping many seniors out of the market, sparking a miniature price war among wholesale reverse mortgage lenders.

With plenty of room to grab profits through securitization on the back end, lenders have resorted to slashing their upfront fees in order to entice more borrowers to the table. The changes suggest that the reverse mortgage sector may be adopting some of the pricing structures that have long been standard with traditional mortgages.

But when market conditions change and/or investor demand diminishes, will these strategies prove sustainable after borrowers have come to expect no-upfront-fee loans? “That’s the million-dollar question,” said John Lunde, president of Reverse Market Insight, an industry analytics firm based in California.

Several national wholesale lenders have reduced their fees in recent weeks. Bank of America Home Loans, Security One Lending and Genworth Financial Home Equity Access have announced they are cutting their monthly servicing fee on fixed-rate reverse mortgages. Generation Mortgage Co. and Met Life Bank are cutting both their servicing and origination fees on fixed-rates. Other lenders have announced interest rate cuts.

A Value Proposition

Since the housing and market crashes of a few years ago, almost all reverse mortgages issued have been Home Equity Conversion Mortgages (HECMs), which are insured by the Federal Housing Administration, a division of U.S. Department of Housing and Urban Development (HUD). The loans have been strikingly popular in recent years, with the number of loans endorsed rising from about 48,000 in 2005 to almost 112,000 in 2009, according to HUD and the National Reverse Mortgage Lending Association.

But late last year, with its budget declining and losses incurred by the program increasing because of declining home values, HUD decreased the maximum loan value it would insure to $625,000.

“[That] had an adverse impact on the industry in general,” said Joe Demarkey, vice president of strategic business development at Met Life. “Volumes are down since that change was made.”

According to new figures released by HUD, the number of reverse mortgages issued nationally was down by more than 20 percent year-over-year in January and February, and March’s figures showed a decline of nearly 50 percent.

Faced with declining numbers of applicants, MetLife moved quickly to react to changing market conditions by cutting its fees, Demarkey explained.

“We made a conscious decision to make a pricing change which improves the value proposition,” he said.

The cuts made so far all affect fixed-rate reverse mortgages. With fixed-rate products, borrowers receive their funds in a lump sum. But by trimming origination and servicing fees, borrowers could receive around $5,000 to $12,000 more depending on the value of their home.

“[Eliminating origination fees is] a dramatic, dramatic change,” says George Downey, owner of Harbor Mortgage Solutions in Braintree. “By eliminating the origination fee and the servicing fee, it provides more money for the consumers, in some cases substantially more money. …It changes the secondary market transaction so the revenue is coming on the back end.”

“They’re beginning to use some of the tactics that have [long] been used in forward pricing,” he added.

Return On Investment

But in addition to trying to stoke consumer demand, there’s another reason for lender’s sudden willingness to forgo fees: A strong appetite among investors for longer-term residential mortgage backed securities (RMBS). More loans written means more loans that can be sold into securitization.

Since Fannie Mae was placed into conservatorship, sister agency Ginnie Mae has become the market leader in RMBS, and its securities come with an explicit government guarantee, assuring investors they will be paid the full interest owed, even if the underlying loans go into default.

For all RMBS, if the underlying loan is paid in full – for example, when the house is sold or refinanced – then the investor simply has its money paid back immediately, recouping the initial investment but no longer profiting through interest payments. The average time before most homeowners look to sell their house or refinance their loan is less than five years, and with rates currently so low, many have refinanced even sooner.

But reverse mortgages aren’t paid off until the senior homeowner passes away or moves into care. That means “the risk of pre-payment is pretty negligible,” said Brett Kirkpatrick, a loan officer at Tewksbury’s Mortgage Financial Services. “Nothing lasts forever, these things do pay off, but they tend to have a much, much longer duration.”

As a result, investors are able to earn interest for a longer period of time. With other safe, long-term investments, like 10-year Treasury bonds, currently offering low rates of return, reverse mortgage RMBS are very popular at the moment.

But, “[if] the five-year rate [for securities with a similar risk profile] goes up to five percent, the ability to do this and fund everything on the back is not going to be there,” because reverse mortgage RMBS would be less attractive to fixed-term investors, explained Reverse Market Insight’s Lunde. When rates do rise again, it’s unclear whether fees will return or whether the amount banks are willing to lend to seniors will decline.

“That is new territory and it’ll be pretty fascinating to see how that balance is achieved,” Lunde said.