Mortgage bankers have had a rough year as origination volumes have collapsed in the face of the Federal Reserve's tightening of monetary policy to combat inflation. We have seen some big names exit business lines, and there have been a few bankruptcies. Capacity continues to get squeezed out of the system. Rocket (RKT 1.32%) is known primarily as a mortgage originator, but it is building a presence in other financial services, which will help compensate for the cyclicality of the mortgage business.
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Rocket's app is a huge advantage for the company
Rocket is known best for its app, which allows potential borrowers to handle most of the process from their phones. This app is more than a convenience, however; it is a core part of the company's cost advantage. Most mortgage originators employ loan officers who develop relationships with real estate agents, find borrowers, and shepherd them through the process. Loan officers are generally paid anywhere from 0.5% to 2% of the loan amount as a commission. Rocket doesn't need loan officers (the app handles that), which is a big cost savings.
Mortgage servicing is an unusual asset
Although mortgage origination is Rocket's primary business, it does have ancillary businesses that also generate income. Mortgage servicing is one such business, which also happens to be an interesting asset. Mortgage servicers handle the administrative tasks of a mortgage on behalf of the investor. The servicer collects the monthly payments, forwards the principal and interest payments to the investor, ensures taxes and insurance are paid, and works with the borrower if he or she goes delinquent. The servicer is paid 0.25% of the principal balance outstanding per year. The right to perform this service is worth something, and the mortgage servicing right is counted as an asset on the company's balance sheet. This asset accounted for almost 40% of Rocket's revenue in the third quarter.
Rocket Money lowers customer acquisition costs
Aside from servicing, Rocket Money is the latest addition to the Rocket portfolio. The company bought Truebill in late December of 2021 and has rebranded it. Truebill is a means of tracking and deleting unwanted subscriptions. The company hopes to use Rocket Money to acquire leads for the mortgage origination business without much cost. On the earnings conference call, Brian Brown, chief financial officer, said that the acquisition cost for a borrower via Rocket Money is about $100, compared with $1,000 or more via other mortgage lead generation pathways.
Rocket Homes is the realty arm of the company, which allows the borrower to search homes and get a mortgage. Rocket is paid a referral fee by the real estate agent. Rocket is also in the auto loan business via Rocket Auto, and in title insurance with Amrock. These ancillary businesses, along with servicing, will help Rocket diversify its revenue streams and compensate for the cyclicality of the mortgage business.
The past year has been horrible for the mortgage sector, and next year looks to be difficult as well. Refinance activity is all but dead, because few borrowers have the option of rolling over an existing loan into one with a lower rate. High rates also have reduced housing affordability, putting a damper on sales activity. That said, given Rocket's cost advantages over its competitors, it will be a survivor -- and more than that, one of the leaders when the sector recovers. It is tough to recommend the stock after it rallied 29% earlier this month on better-than-expected inflation data, but it is probably priced for the worst-case scenario. As it builds ancillary businesses, Rocket's earnings should become less volatile, which would support a higher multiple.
Editor's note: This article has been corrected. Brian Brown is the CFO of Rocket Companies. A previous version of this article misspelled his name.
