There are dozens of lenders fighting for mortgage brokers’ business. That gives brokers a slew of options when deciding where to send their clients.

So when a lender cuts broker compensation, that lender has to expect a drop-off in volume. Case in point is First National, the country’s biggest non-bank residential lender.

At $2.75 billion, First National’s Q4 2012 origination volume was down 6% y/y and as much as $750 million below some analysts’ expectations. That is despite market share gains resulting from FirstLine’s exit from the broker channel.

Much of that decline was due to last summer’s mortgage rule tightening, which shrunk volumes industry-wide. But in August, First National also cut broker commissions.

That finder’s fee change “may have had a bigger negative impact on Q4/12 originations than First National originally anticipated,” says RBC Dominion Securities analyst Geoffrey Kwan in a report released Tuesday.

It appears that some brokers voted on First National’s comp cuts with their <Submit> buttons (i.e., submitted deals elsewhere). The resulting volume loss likely factored into First National’s decision last month to reverse its compensation reductions. (See: MCAP & First National Sweeten Their Pots)

Competing lenders, eager to improve their own margins, have closely watched the effects of broker compensation changes. The lesson, if you’re a lender, may be to slowly and quietly raise your rates a few basis points, rather than cut broker comp. Many brokers will then either: (a) not realize what happened; (b) deal with it and try to sell the higher rate, or (c) buy down those rates from their commissions to compete.

The challenge for lenders and brokers is that consumers aren’t stupid. They’ll vote by taking their business elsewhere if pricing isn’t razor sharp. In battles like these, the customer ultimately forces one party (or both) to live with thinner margins.

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Rob McLister, CMT