The Brave New World of Emerging Markets

by Dain Ehring, CEO, Dorado Corporation
November 2005

When both Business Week and The Wall Street Journal have front page stories on a segment of the emerging market population in the same week, you know the issue has entered the mainstream. The recent articles dealt primarily with the 11 million illegal immigrants living in the U.S., but they also allowed us to peer into the whole emerging markets segment of the economy, which encompasses as many as 50 million people and has tens of billions of dollars in purchasing power.

Of course none of this is news to the mortgage industry. We have recognized for several years that a vast, untapped homeownership market existed in emerging markets, including recent immigrants to this country. Until recently, however, no one has figured out how to effectively reach these individuals with the appropriate mortgage products. But we may have finally reached a point at which the accumulated wealth of this segment, changes in public policy, and advances in lending technology have made it a business imperative for mortgage originators to address this market need head-on.

History of Emerging Markets

For many years, emerging markets were an afterthought, with mortgage lending activity aimed at these consumers inspired more by the Community Reinvestment Act (CRA) than by market forces. That has slowly started to change. By some accounts, 60 percent of all first-time home starts over the next 10 years will come from minorities —an opportunity that is simply too large to ignore.

Historically, there have been a number of challenges in serving the emerging markets segment. Because many of these loans are exception-based – and many of the borrowers do not understand the lending process and don’t have the proper documentation – it can easily take two-to-three times as long to complete a transaction. Many loan officers may not know about, or don’t have access to, the types of lending programs for which an emerging markets borrower is qualified. (How many existing loan products are set up to recognize ITIN documentation, for example?) As a practical matter, the channel that serves emerging markets is often limited to two or three products, on the assumption that all loan activity will be sub-prime.

Because of this, predatory lending has also been a problem for this market. By some published estimates, 23 percent of all sub-prime borrowers could have qualified for a prime loan had the loan officer had access to the full range of available products, and taken time to help the borrower assemble the proper documentation. Analysis of origination data under the Home Mortgage Disclosure Act (HMDA) has further served to highlight the rate differential between minority and non-minority borrowers, putting greater pressure on lenders to address this issue. Failure to do so will have significant consequences.

The Role of Technology

Fortunately for both lenders and borrowers, new types of loan origination systems (LOS) and decisioning technologies that are based on service-oriented architectures (SOA) are emerging to make it much easier to address these issues. These systems help level the playing field for borrowers by enabling lenders to easily give every loan officer at every branch access to the complete range of potential loan products right at the point of sale. They also give managers a centralized view of the entire mortgage pipeline, across all channels and business units. In this way, they act as an anti-predatory lending tool for lenders, helping to monitor and ensure compliance. For the lender, this is invaluable.

Solutions based on service-oriented architectures also make it simpler and faster to design, test, roll out, and support lending programs across the enterprise specifically for emerging markets. Non-traditional credit programs can be pushed out to the point of sale. One such program allows the lending agent to calculate a credit score for a potential borrower based on utility bills and rental history rather than the traditional documentation. These systems can also greatly simplify the process of creating new channels to serve an emerging markets population, allowing lenders to more effectively recruit minority brokers, and brokers to increase their ability to offer the “right product at the right price” to minority borrowers.

Looking Ahead

The low interest rate environment that has helped triple loan volume in recent years won’t last forever. Industry forecasts for 2006 and beyond have rates increasing again, so lenders, brokers, and correspondents who want to maintain or grow market share in this environment — while effectively addressing the requirements of the CRA and Fair Housing Act —will need to re-double their efforts to serve the emerging markets sector.

At the same time, the compliance environment is becoming increasingly stringent, with the stakes for failing to adhere to best practices getting higher every day. So smart lenders are now looking to emerging markets for future share potential, and they are beginning to plan their product and technology approaches today. Are you?