A while back, I wrote a post about some possible problems and concerns with a new Fannie Mae program, called Collateral Underwriter, which is aimed at helping lenders evaluate appraisals and appraisers. As is often the case, that issue went completely under the radar while everyone was too busy arguing about HomesForSale.com or some new Zillow thing.
In recent conversations — primarily with the extraordinary Linsey Ehle, Career Development Coach for BHG Gary Greene in The Woodlands who is among the best at what she does — something else to consider here came up. (Disclosure time: Linsey’s my girlfriend. 🙂 )
We have always been told, because it has always been the case, that no one is a better source of property valuation than the local REALTOR. Think about the hate that Zestimates gets because “it’s totally inaccurate”. If you’re looking to sell your house, and want to know what it’s worth, call your local REALTOR. She can access the MLS, use her expertise, and pull comps that are appropriate for your house.
My question: Is this still true?
The Logic
Please keep in mind that as of now, the CU program is still relatively new, and there isn’t much evidence one way or another. And as far as I know, there has been no detailed study of the impact of CU. So this is all speculation. But then, the point of strategy seems to me to be to try and predict where the puck is headed, not where it’s been, so… come with me down the winding path.
- Homeowner calls Jane, a REALTOR, to list his house. Jane does her thing, pulls the comps, local sales trends, and comes up with a price: $300,000.
- Buyer sees the house, loves it, and puts in an offer at $300,000. Jane and her client accept, and the house goes under contract.
- Buyer applies to Lender for a mortgage, putting down 10%.
- Lender orders an appraisal from Appraiser Joe.
- Joe visits the house, goes into the MLS, pulls comps, and submits an appraisal that values the house at $300,000.
- Lender submits that appraisal, along with the rest of the loan documentation, to Fannie Mae via Desktop Underwriter and Collateral Underwriter. Remember that this happens before the Lender writes the loan.
- CU kicks back a “high risk” score for Joe’s appraisal, because it differs from the computed values that Fannie Mae’s system thinks is “normal”.
The question is what happens now.
Scenario One: The Ideal World
What Fannie Mae insists it wants to see happen, and in an ideal world what ought to happen looks like this:
- Lender’s in-house Appraisal department works with Joe the Appraiser to understand why his appraisal came back as “high risk” from Fannie Mae.
- Joe spends an extra few hours answering questions, explaining his rationales, and Lender agrees with him.
- Lender accepts the appraisal, and approves the loan because the appraisal — as explained by Joe the Appraiser — supports the value of the collateral.
In this world, everything goes as planned, the “bad” CU score is explained to the Lender’s satisfaction, and we have a closing.
Scenario Two: Lazy Lender
Then… we have this possibility:
- Lender has stacks and stacks of loan applications to process, and there is no in-house Appraisal department with experienced appraisers who can have an intelligent review of Joe’s work.
- The last thing the Lender wants is to take any risks that Fannie Mae may not buy the loan once it’s been written.
- The risk here is almost never that the property is overvalued relative to the loan; the risk is that the property is undervalued for the loan.
- The easy thing for the Lender to do, then, is either to deny the loan, or approve it for a lower amount. That way, in case Joe’s appraisal came in too high, the risk to the bank is lower since they are writing a loan for a lower amount. If Joe’s appraisal came in too low, well, the risk to the bank is even lower now. Great!
The buyer has to tell the seller that the property didn’t appraise. No closing, no deal, unless the Seller is willing to drop the price.
Scenario Three: The Worried Appraiser
We also have the possibility that the Appraiser, rather than the Lender, will engage in risk-reducing behavior:
- Joe the Appraiser knows that one of the purposes of Collateral Underwriter is to help Lenders evaluate the appraisers they hire.
- Keep turning in “high risk” appraisals, and the Lender may decide not to hire Joe anymore.
- Furthermore, as above, there is less risk to undervaluing a property as far as the Lender and Fannie Mae are concerned.
- The savvy thing to do, then, for Joe the Appraiser is to come in on the low side every time. This way, even if his appraisal gets kicked back for being too different from what Fannie Mae’s internal AVM thinks the value ought to be, it’ll be on the low side, which makes the Lender more relaxed.
- So rather than try to fight Fannie’s estimate, or explain to the Lender’s in-house Appraisal Department about every single choice he made, Joe just goes back and re-runs the appraisal using lower comps (Fannie Mae helpfully supplies a list of comps, with the question of “Why didn’t you use these comps?”) to get to a lower valuation.
- Lender accepts that lower-valuation appraisal, denies the loan at $300K, or approves it for a lower amount.
Property didn’t appraise, buyer tells seller no deal, unless the price is dropped.
Remember that Listing Agent?
Obviously, either of the bad scenarios is bad juju. But this new system raises a question of whether any agent’s estimate of value can be trusted going forward.
No matter how “correct” the initial valuation, no matter how well-supported by comps and recent sales trends, no matter how supported by multiple bids, etc., if the Fannie Mae CU system thinks the appraisal is “high risk”, then it’s “high risk” and different from the “norm” as defined by the algorithms at Fannie Mae.
Those algorithms then reach both the Lender and the Appraiser. Fannie says the scoring of appraisals is merely information for the Lender to use to evaluate the appraisal and the appraiser more fully. But I find it very difficult to think that rational self-interested people and companies would not be influenced by those Fannie evaluations. So just how valid, how accurate, is the original listing agent’s valuation of the property?
In fact, given the stigma of having to put a home back on the market, wouldn’t the intelligent seller (or listing agent) ask for an appraisal and run it through Fannie Mae’s CU before putting the house on the market? That way, you can price the home at a level that you know Fannie Mae will find low-risk.
Since only lenders have access to Collateral Underwriter, I’m not even sure if that sort of thing is possible pre-listing. But it does suggest that one of the most important services of an experienced REALTOR, her knowledge of the market, and her ability to price a home correctly so that it generates maximum interest, maximum offers, and highest price is… devalued.
After all, whatever the listing agent thinks the value of the home is, if the house won’t appraise, it won’t appraise. And her opinion doesn’t mean a whole lot then, does it?
So… What IS Going On With Appraisals?
What I’m curious about is what the experience on the ground is. Linsey tells me there seem to be more issues with appraisals in her office, but that may or may not be connected with Fannie Mae CU.
If you’re seeing anything since the start of this year, let us know. If you’re seeing nothing, let us know. Call me paranoid, but I’m worried about this.
-rsh
PS: I know we’re talking only about Fannie Mae’s program, but many of the mortgage finance authorities, Freddie Mac, FHA, VA, etc. all have similar programs in place or launching soon.
