Wednesday, January 26, 2011

Econ 101 Redux

It's been a few weeks, I guess you can say I've been hibernating considering how badly the Northeast has been buried in snow.

So a few months back I wrote about the basics of your college Econ 101 class and how supply & demand curves effect prices. In volatile markets, how many lenders are following the basic economic foundation much of capitalism and free markets are based upon. If prices prices and margins are flat, you're doing something wrong.

A few months back it was time to raise margins. Ops departments were working at maximum capacity, warehouse lines were stressed and investor turntimes were delayed. Lenders were operating with a limited loan supply and high demand. I fear too many missed the boat on that one and failed to recognize revenue that was well within reach, OUCH!

Now fast forward to present day and the market has done on 180 on us. Volume is off upwards of 50%, so demand has waned while supply is up. Ops staff is just waiting for business at this point. That supply & demand curve is inverted which leads to lower prices. If volume is down 50%, the lender may have missed those first few Econ 101 lectures. I can tell you fact certain that lenders are losing business for 25-50bps in price or .125-.25 in rate, and it's a shame!

Managing margins is so much more an art than science so be careful...
-Say you originate 50M with a 1pt margin, forecasting 500k in revenue.
-Dropping to .75 margin and increasing volume to 60M would leave you @ 450k.
-Generating 50k less is a losing proposition BUT there's some upside, right? Increase sales morale which is infectious in the retail space - increase junk fees by 20% - and if payroll is based on splits, that's a win too.
-An increase to only 55M would be a mess with revenue @ 412.5k while reaching 70M would be a home run with revenue @ 525k.

All firms are different and if volume is slow, what better time for a banker to think about their own economics.

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