All posts by Shelly Miller
How a business prices its products is a dynamic process that drives customer satisfaction and loyalty, as well as business success. In the digital age, pricing is becoming even more complex. For example, companies like Amazon may revise the price of a hot item several times per day. Dynamic pricing models for consumer financial products can be especially difficult for at least four reasons: A complex regulatory environment. Fair lending concerns. The potential for adverse selection by risky consumers and fraudsters. The direct impact the affordability of a loan may have on both the consumer’s ability to pay it and the likelihood that it will be prepaid. If a lender offered the same interest rate and terms to every customer for the same loan product, low-risk customers would secure better rates elsewhere, and high-risk customers would not. The end result? Only the higher-risk customers would select the product, which would increase losses and reduce profitability. For this reason, the lending industry has established risk-based pricing. This pricing method addresses the above issue, since customers with different risk profiles are offered different rates. But it’s limited. More advanced lenders also understand the price elasticity of customer demand, because there are diverse reasons why customers decide to take up differently priced loans. Customers have different needs and risk profiles, so they react to a loan offer in different ways. Many factors determine a customer’s propensity to take up an offer — for example, the competitive environment and availability of other lenders, how time-critical the decision is, and the loan terms offered. Understanding the customer’s price elasticity allows a business to offer the ideal price to each customer to maximize profitability. Pricing optimization is the superior method assuming the lender has a scientific, data-driven approach to predicting how different customers will respond to different prices. Optimization allows an organization to determine the best offer for each customer to meet business objectives while adhering to financial and operational constraints such as volume, margin and credit risk. The business can access trade-offs between competing objectives, such as maximizing revenue and maximizing volume, and determine the optimal decision to be made for each individual customer to best meet both objectives. In the table below, you can see five benefits lenders realize when they improve their pricing segmentation with an optimization strategy. Interested in learning more about pricing optimization? Click here to download our full white paper, Price optimization in retail consumer lending.
Over the next several years, the large number of home equity lines of credit (also known as HELOCs) originated during the boom period of 2005 to 2008, will begin approaching their end of draw periods. Upon entering the repayment period, these 10-year interest-only loans will become amortized to cover both principal and interest, resulting in payment shock for many borrowers. HELOCs representing $265 billion will reach their end of draw between 2015 and 2018. Now is the time for lenders to be proactive and manage this risk effectively. Lenders with HELOC portfolios aren’t the only ones affected by HELOC end of draw. Non-HELOC lenders also are at risk when consumers are faced with payment shock. Experian analysis shows that it is an issue of consumer liquidity — consumers who reach HELOC end of draw are more likely to become delinquent not only on their HELOC, but on other types of debt as well. If consumers were 90 days past due on their HELOC at end of draw, there was a 112 percent, 48.5 percent and 24 percent increase in delinquency on their mortgage, auto and bankcard trade, respectively. With advanced data and analytics, lenders can be proactive in managing the risk associated with HELOC end of draw. Whether your customer has a HELOC with you or with another lender or is a new prospect, having the key data elements to obtain a full view of that consumer’s risk is vital in mitigating HELOC end-of-draw risk. Lenders should consider partnering with companies that can help them develop and deploy HELOC risk strategies in the near future. It is essential that lenders proactively plan and are well-positioned to protect their businesses from HELOC end-of-draw risk. Experian HELOC end of draw study
End-of-Draw approaching for many HELOCs Home equity lines of credit (HELOCs) originated during the U.S. housing boom period of 2006 – 2008 will soon approach their scheduled maturity or repayment phases, also known as “end-of-draw”. These 10 year interest only loans will convert to an amortization schedule to cover both principle and interest. The substantial increase in monthly payment amount will potentially shock many borrowers causing them to face liquidity issues. Many lenders are aware that the HELOC end-of-draw issue is drawing near and have been trying to get ahead of and restructure this debt. RealtyTrac, the leading provider of comprehensive housing data and analytics for the real estate and financial services industries, foresees this reset risk issue becoming a much bigger crisis than what lenders are expecting. There are a large percentage of outstanding HELOCs where the properties are still underwater. That number was at 40% in 2014 and is expected to peak at 62% in 2016, corresponding to the 10 year period after the peak of the U.S. housing bubble. RealtyTrac executives are concerned that the number of properties with a 125% plus loan-to-value ratio has become higher than predicted. The Office of the Comptroller of the Currency (OCC), the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, and the National Credit Union Administration (collectively, the agencies), in collaboration with the Conference of State Bank Supervisors, have jointly issued regulatory guidance on risk management practices for HELOCs nearing end-of-draw. The agencies expect lenders to manage risks in a disciplined manner, recognizing risk and working with those distressed borrowers to avoid unnecessary defaults. A comprehensive strategic plan is vital in order to proactively manage the outstanding HELOCs on their portfolio nearing end-of-draw. Lenders who do not get ahead of the end-of-draw issue now may have negative impact to their bottom line, brand perception in the market, and realize an increase in regulatory scrutiny. It is important for lenders to highlight an awareness of each consumer’s needs and tailor an appropriate and unique solution. Below is Experian’s recommended best practice for restructuring HELOCs nearing end-of-draw: Qualify Qualify consumers who have a HELOC that was opened between 2006 and 2008 Assess Viability Assess which HELOCs are idea candidates for restructuring based on a consumer’s Overall debt-to-income ratio Combined loan-to-value ratio Refine Offer Refine the offer to tailor towards each consumer’s needs Monthly payment they can afford Opportunity to restructure the debt into a first mortgage Target Target those consumers most likely to accept the offer Consumers with recent mortgage inquiries Consumers who are in the market for a HELOC loan Lenders should consider partnering with companies who possess the right toolkit in order to give them the greatest decisioning power when restructuring HELOC end-of-draw debt. It is essential that lenders restructure this debt in the most effective and efficient way in order to provide the best overall solution for each individual consumer. Revamp your mortgage and home equity acquisitions strategies with advanced analytics End-of-draw articles
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