toyota-yaris Suppose you’re a car salesperson and your boss offers you a $1,000 bonus if you can sell a Toyota Yaris for $50,000.

Would that get you excited?

Us neither. Who wants to stick a poor customer with an overpriced product to make a few extra bucks? (If you answered, “I would,” don’t bother reading further.)

Yet, it’s sometimes accepted practice for lenders to offer bonus compensation to sell mortgages at above-market rates. No offense to any of our lender partners, but this type of compensation scheme doesn't exactly scream of fiduciary responsibility.

It’s even worse when rates should be dropping. Look at our current market scenario for example.

On March 1:

  • The 5-year bond yield was 2.52%
  • A deeply-discounted 5-year fixed rate was ~3.69%.

As of yesterday:

  • The 5-year bond yield was 2.52%
  • A deeply-discounted 5-year fixed rate was ~4.29%

That’s a 60 basis point higher rate today, despite yields dropping almost 70 basis points in the last month. There’s no question that 5-year fixed rates should be lower than they are. Yet, most lenders are keeping them inflated.

Instead of lowering their rates, some lenders are offering brokers incentives to sell higher rates. This practice isn’t doing brokers any favours, and it sure as heck isn’t helping customers.

Most, in our business, would rather see lenders avoid incentives not aligned with the customer’s best interests. Lenders could then pass along lower rates and help brokers be as competitive as possible in the marketplace.

____________________________________________________

Counterpoint:  This isn’t meant to indict the lenders who offer these incentives. All are, in fact, very reputable organizations. The problem is, there are still competitive pressures (vestiges of yesteryear), that drive these rate-based incentives.

Moreover, in our current market, lenders have run these promotions expecting rates to rise, or remain stable. With yields plunging unexpectedly, certain lenders are now stuck honouring these bonuses, and maintaining higher rates to compensate.

  1. in watching cnbc and the new debt crisis,the cost of borrowing for your financial institution and others around the world has soared in the past 4 weeks and that is what is creating the disconnect in the spreads. In other words the spread may have widened compared to traditional formulas but that cost is not being retained at the origination level. Every institution (banks included) must pay for capital and that cost has risen so although rates appear to look like they should be lower in fact they are priced below what the new cost of capital is.
    A 6.5 bp decrease in rates or increase equals about 25 bp of finders fee on a 5 year mortgage. When lenders offer more compensation and the rate remains high it is generally because of the disconnect between the cost of capital and the rates. They then offer more compensation and amortize the cost of this money over the mortgages to the broker to use on the client for things like helping with moving costs, appraisals, cmhc fees etc. They then only have to pay this new compensation on the files that close which although some may argue runs about 30 percent of the application a lender receives.
    Brokers have despite record rising housing prices have pushed lenders (and lenders pushed lenders) to pay more, 7 years ago compensation on a deal was about 85-90 bp and today the big 5 average 115 bp paid per file. as stated before this is despite an historic increase in home prices which would represent a raise in itself. That difference through volume bonus and other programs represents approximately 7.5 bp in rates on every single client.
    Maybe it is time for a change but the starting point would be to get rid of all the loyalty programs that are costing the client a lot of money if we as an industry really want to say ……..

  2. John:
    I thought “the cost of borrowing” for a 5Yr fixed mortgage simply is the 5Yr bond rate + overhead + profits.
    Banks may want to us to believe it, but I have a hard time understanding how/why would the “the cost of borrowing” be not directly correlated to the bond rate?.
    if that is the case, shouldn’t also see cases where the “cost of borrowing” be lower, and rates going down when bond rates are heading up. Never seen that :-)

  3. shouldn’t also see cases where the “cost of borrowing” be lower, and rates going down when bond rates are heading up. Never seen that :-)
    ==================================
    we all saw that 2 months ago. Posted rates didn’t necessarily move but there was heavy discounting at the same time that 5 yr. bond rates were increasing.
    When it come to raising long term capital, the GCAN5YR bonds are just a measure of 5yr money. FI’s source funds from a variety of areas including the old standby’s like Grandma’s GIC’s, RRSP’s, demand deposits and savings accounts. Many of these products have not moved on their rates offered which concludes for me many FI’s are keeping much of the gravy for themselves at this time!
    A writeup here on CMT about funding sources someday might prove educational?

  4. Hi John,
    Thanks very much for your perspectives.
    You’re absolutely right that capital costs have increased. In Canada’s mortgage market, this is largely reflected in the Canada Mortgage Bond spreads–which have risen from 18 basis points in March to 42 basis points today. In a very rough sense, one might therefore attribute a 1/4 point increase in funding costs to the Euro dilemma.
    There are also two other issues at play:
    1) Lenders don’t believe yields will stay this low for long (given the strong economy and pending BOC hike)
    2) Banks want more profit. They seem to have realized that nobody wins if spreads contract to the 70-90 bps extremes we saw in March.
    At the moment, the spread on banks’ “discount” 5-year fixed rates and the bond is 190 bps. Deduct a risk premium of 25 and you get 165 bps. “Normal” is closer to 120 in a highly competitive market (this includes what lenders pay brokers). So there’s room for rates to fall.
    We’re seeing one broker advertise 3.89% 5-year fixed rates, and credit unions are being aggressive too.
    Long story short, these rate-based incentives (offered to brokers) don’t make a heck of a lot of sense to us. In general, anything that pits broker against client isn’t in the industry’s best interests.
    Of course, everyone has to earn a living. Mortgage planners add significant value to the extent they provide excellent advice. But 100 bps is a reasonable wage for that service. If lenders want to pay more than a point, we’d just prefer it didn’t come at the expense of the client in higher rates.
    Cheers for now…
    Rob

  5. finally maybe the Bank of Canada will ‘get it’ and quit with this stupid idea of raising interest rates when the whole world is heading back into recession – just looking at the Bond Yields tells us that, now closing in on the lowest levels in a year.

  6. I am always guided by what is best for my clients (rates, quality of lender, mortgage small print, lenders collection practices etc.), not what I may earn.
    Thanks Kenny
    * Unrelated question about the cost of doing business for a sub mortgage broker.
    I am charged 5% plus a monthly advertising fee by the franchise DLC’s and a further 20% by the broker owner. I this the normal amount that sub brokers are charged?

  7. Great post Rob & Melanie… you’ve hit the nail right on the head. I had a lender come into our office yesterday reminding me that I could use the bonus to buy down a client’s rate… which still isn’t even close to competitive in today’s market.
    In our day and age where information is so readily available on the internet it amazes me that some brokers are able to get away with providing their clients with anything but the best rates in the market. Why would you compromise your relationship with a client for a couple extra hundred bucks? Mind baffling.
    Keep up the good posts!

  8. Kenny,
    You can definately do better on your income splits with different Brokerages.
    I get a 90% split across the board and no advertising fee, mind you DLC does advertise well. Hope that helps.

  9. Hi Chris,
    I hear ya, and thanks for the nice note.
    The other thing that’s irritating is that it’s sometime hard to use the extra comp to buy down rates at certain lenders–for reasons I won’t get into, so as not to single out any particular lenders. :-]
    Cheers,
    Rob

  10. Hi Kenny,
    You ask a great question….and it provides inspiration for an article, so thanks!
    In general, (just our anecdotal observations) splits for new agents seem to start at 50-65%.
    Agents doing volume and having a minimum two years of experience are closer to 70-80%.
    Going solo can get you even higher, but then you have minimal support–and time is as valuable as money in this biz.
    There are also tons of exceptions. For example, if your broker provides leads, mortgage planning support/technology, underwriting assistance, considerable marketing assistance, etc., then one’s split may reflect those value-adds.
    Cheers,
    Rob

  11. DLC does advertising and offers online courses which I pay for, but I do not personally need.
    The broker I am with does not provide leads etc… And no business (or lender connections) has been gained, by me, from the DLC Franchise
    The broker does process the deals and is now considering an extra charge if the administration staff has to follow-up on getting the paper work complete.
    This is because of the extra staffing cost involved, to the broker.
    Thanks

  12. This website brings issues to the forefront that probably would not see the light of criticism otherwise. I would just like to thank you for that, and for all the effort it must take to keep CMT going. ~Diane

  13. Rob,
    Great article. I am recording a video rant on this very topic today. -too funny.
    It reminds me of how Gas Stations raise their prices before a long weekend, then take forever to lower them once the weekend is over.
    It is bad business in my opinion.
    Keep up the good work.
    Scott

  14. Kenny: your commission splits, “advertising” costs and branding fees are definitely out of whack.
    When I first got into the business, I checked out several brokerages to see which one would be the right for me. The “super brokerages” basically told me to piss off and find a smaller brokerage that will train me.
    I did find one super brokerage that agreed to take me on but the fees were just exorbitant. Seems as though all these super brokerages put a lot of hurdles for new people to join the team.
    Then I found my current brokerage and I’m very happy. My commission splits are quite fair. We never advertise and yet together we are untouchable on rates. We are top 1% with all the major lenders. Our efficiency ratios are also one of the best in the industry.
    Just goes to show how you don’t necessarily need all the advertising to succeed. Our brokerage relies on the quality of agents over quantity, which is why we generate so much business despite being only 1/10th the size of the some of the super brokerages. While you have to get yourself out there, you have to do it in a smart way. There’s no shortage of people in the advertising business who are eager to take your money. After all, everyone is out to make money. But don’t expect any serious results. I have spoken to some of the more senior brokers and they have all said advertising has generally provided them little business.
    What did get them business is networking with people, professional referrals, personal referrals, and becoming active participants in their community. Don’t compete for rates because there are many tricks other brokers can use to buy down rates. I know some brokers who religiously take a hit on their commission by buying down rates and hoping to capitalize on volume. That game is futile these days because banks can and have matched their rates through discretion. If you compete only on rates, you won’t last long in this business. If you’re really passionate about this business, you’ll make it happen. It may be difficult at first — Rome wasn’t built in a single day — but sooner or later hard work is rewarded.

  15. Thanks Scott,
    It’s remarkable how lenders have been so reluctant lately to break ranks in pricing. Normally you get at least a few independents who break from the herd. All the lenders must have been out on the golf course together this week. :-]
    Cheers,
    Rob

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