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Fifth Third Shielded from Mortgage Decline: UBS

Tickers in this article: FITB

NEW YORK ( TheStreet) - Mortgage lending is expected to decline this year as the refinancing wave subsides, but Fifth Third Bancorp (FITB) has plenty of offsets to preserve earnings, according to UBS analyst Stephen Scinicariello.

Fifth Third Bancorp of Cincinnati originated $25.2 billion in residential mortgage loans during 2012, increasing from $18.6 billion in 2011. The company's revenue from mortgage origination fees and the sale of loans totaled $821 million in 2012, more than doubling from $396 million the previous year.

The company also booked $250 million in loan servicing fees last year, however this was mostly offset by $186 million in servicing rights amortization and $40 million in valuation adjustments on servicing rights. These adjustments are typical during a period of heavy refinancing activity, because banks must reflect the anticipated decline in servicing revenue from the loan payoffs, in their earnings and on their balance sheets.

A Major Decline for 2013

Mortgage volume was given a great boost last year after President Obama expanded the Home Affordable Refinance Program (Harp). HARP 2.0 allows qualified borrowers with mortgage loans held by government-sponsored enterprises -- including Fannie Mae and Freddie Mac -- to refinance their loans at today's historically low interest rates, no matter how much the value of the collateral home as dropped.

Mortgage lenders in 2012 also enjoyed very wide gain-on-sale spreads, which are expected to drop significantly in 2013, in part because the rising yield on 10-year U.S. Treasury bonds is causing a corresponding increase in mortgage-backed securities yields. Scinicariello late on Thursday said in a report that mortgage gain-on-sale spreads had declined by 30 basis points since the end of last year.

The Mortgage Bankers Association expects total mortgage loan originations in the United States to decline by 20% in 2013 to $1.396 trillion from $1.750 trillion in 2012. The MBA expects mortgage volume to decline by another 24% in 2014, to $1.055 trillion.

What This Might Mean for Fifth Third

Fifth Third's $845 million in mortgage banking net revenue made up 13% of the company's total revenue during 2012, increasing from 10% in 2011. In light of the MBA forecasts and the declining mortgage gain-on-sale spreads, UBS conducted "a scenario analysis to assess the EPS effect of a 50% decline in mortgage origination revenues; taking into account several revenue and expense offsets."

"In our scenario analysis, a 50% decline in origination and gain on sale revenues translates into a $0.31 hit to EPS (17%); however, taking several offsets into account, we estimate only a potential net reduction to operating EPS of $0.13 or 7%," Scinicariello wrote.

The offsets include a 40% efficiency ratio for Fifth Third's mortgage operations. The efficiency ratio is, essentially, the number of pennies of expense incurred for each dollar of revenue. An efficiency ratio below 50% is generally considered quite good for most banking businesses.