Sunday, June 07, 2009

Rhonda Porter writes about the Home Value Code of Conduct

She writes:

You may or may not have heard about HVCC. You'll have the opportunity to learn about it first hand if you obtain a conventional mortgage. In a nutshell, mortgage originators and processors (anyone considered to be in "production") are no longer allowed to order appraisals or know who the appraiser willbe until AFTER they receive the appraisal. HVCC just went into effect in May, I wrote a post about my experience at Rain City Guide where a Real Estate Agent asked me:

If I understand you correctly:

1. We don’t know who the appraiser is
2. We cannot contact the appraiser even if we knew. [Note: the real estate agent CAN contact the appraiser if they somehow know who it is...the loan production staff cannot].
3. We have no idea when the appraisal will be done.

The Home Value Code of Conduct was created as a result of the New York Attorney General investigating Washington Mutual (once a large bank) and eAppraiseit (an appraisal management company) for manipulating appraisers to produce higher values.

HVCC was suppose to create a professional distance between mortgage originators and appraisers so that an appraiser could perform their task without pressures to produce a higher value. Appraisals now go through an appraisal management company (which take on average 40% of the appraisal fee from the appraiser) to create this distance and supposedly reduce any conflicts of interest. However, the code was amended to allow AMCs (appraisal management companies) to be owned by the very banks who are ordering the appraisals.

From Fannie Mae's HVCC FAQs update on May 9, 2009 (Question 36):

Q. May an AMC Affiliate with, or that owns or is owned in whole or part by the lender or a lender-affiliate, order appraisals?

A: Yes, an AMC affiliated with, or that owns or is owned in whole or part by the lender or a lender affiliate, may order appraisals...

This smacks of the WaMU eAppraiseit scenario all over again!

So big bank owns an AMC where they order all their appraisals through and if a mortgage originator is brokering a loan to that big bank, the appraisal may be ordered through that AMC. Big bank/title company collects an average of 40% of the appraisal fee from the appraiser just for ordering the appraisal. If an appraisal cost $500; the AMC keeps $200 just for controlling and placing the order. The appraiser, who once collected $500 for producing the report now receives $300. Many appraisers are having to increase appraisal fees in order to make a living since AMCs are stripping them of 40% of their income.

Instead of being able to select an appraiser by their qualifications, experience or expertise in a certain area; it's a crap-shoot based on which appraisers are participating (agreeing to lower compensation) with the AMCs.

From CNBC's Diana Olick on the impact of HVCC:

"As many brokers expected, the HVCC is also resulting in some lower appraisals. Since the appraisers now may be unfamiliar with the local market, they will err on the lower side. Of course it may also be that the lack of a relationship with the lender is removing the 'expectation' of a certain appraised value. If the appraisal comes in lower than the sale price, then the deal is off."

HVCC does not allow second appraisals to be ordered due to low appraisal as it's considered "value shopping".

With a refinance, no value can be provided to the appraiser--I can't even let the appraiser know what the home owner thinks the value of their home may be. The home owner, if the appraisal comes in low, is out the appraisal fee (typically around $500). Prior to HVCC, my appraiser could call to give me a heads up that the home was not going to appraise high enough--providing an option for the client to cancel the appraisal before it's complete and saving them some of the appraisal fee or I could contact my appraiser to ask for a value check prior to ordering the appraisal. Not so anymore.

The National Association of Mortgage Brokers has been trying to battle this code with strong political opposition. (NOTE to Mortgage Originators: NOW is the time to belong to your local chapter of NAMB if you care about the future of your industry).

The intentions of HVCC to stop the strong-arming of appraisers to create false values are good. The results are terrible and many of us are trying to have this reversed. I encourage you to please sign this petition and to contact your representatives in Congress.

HVCC is going to hurt the consumer and will only help pad the pockets the owners of the Appraisal Management Companies.

I read Rhonda's blog all the time: she is a straight shooter and keeps me informed of the real world mortgage market. But here I think the policy idea behind the HVCC is correct, and that it needs tweaking instead of repeal. The fact is that lenders and appraisers were in cahoots to get deals done, and that appraisals were basically useless. A paper I wrote with Michael Lacour-Little back in 1998 found that appraisals came in at or above offer prices about 94 percent of the time in Boston, and I have little reason to doubt that the figure was similar elsewhere.

But the more general problem is that even honest appraisers cannot know property values with precision. When I read residential appraisals, they are ridiculous. For instances, they make adjustments from comparables that appear to have no foundation in statistical modeling; they weights the place on the comparables also have no particular foundation. Kerry Vandell showed that comparables can improve valuation relative to using regression along (because they can help control for characteristics that are difficult to observe in data), but I know of no appraiser who actually uses the techniques developed in Kerry's work.

But even if they did, it is likely the standard deviation of valuations would be something like 10 percent. This means that we can be 95 percent sure that actual values would be within 20 percent of appraised value. In neighborhoods where there is lots of homogeneity, one could do better; in neighborhoods with lots of variety, one could do worse. But the point is that to have one number determine collateral value makes little sense.

A rational scheme for mortgage underwriting would look at a combination of down payment size, amortization speed and confidence interval for valuations. I am not holding my breath.


Anonymous said...

Lenders manipulating the appraisal process was primarily an agency problem. The lenders didn't plan to keep the loans, so they didn't care whether the loans would be repaid.

GSEs should keep a list of approved appraisers that lenders must use for conforming loans. This will help insure the integrity of conforming loans.

Non conforming loans (if they ever exist again) must be solved by solving the agency problem. Issuers must have a financial interest in loans being repaid. Otherwise, the only other solution is government run appraisals.

Toronto Real Estate said...

"This smacks of the WaMU eAppraiseIT scenario all over again!"

It surely does! It already is facing a lawsuit for pushing appraisers to inflate values.


Rhonda Porter said...

Richard, HVCC only benefits the owners Appraisal Mangagement Company who now take 40% of the appraiser's fee for ordering an appraisal. Most of the large AMCs are owned by the very banks who are using them (I see this as a conflict of interest) and/or title insurance companies.

I think a better solution would be to allow consumers to select their own appraiser and do away with the mandetory use of AMCs.

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