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The Federal Reserve is preparing to propose regulatory changes that could encourage large banks to re-enter the mortgage origination and servicing business in a more meaningful way. The effort, led by vice chair for supervision, Michelle Bowman, reflects growing concern that post-financial crisis capital rules may have unintentionally pushed mortgage activity out of the traditional banking system and into non-bank lenders.
If implemented, the changes could significantly reshape the competitive landscape. Non-bank lenders such as Rocket Companies Inc. RKT and PennyMac Financial Services PFSI may face heightened pressure as banks reassert themselves. Meanwhile, major institutions like Wells Fargo WFC, Bank of America BAC and JPMorgan JPM could be positioned to regain market share.
Why Banks Pulled Back From Mortgages
In the aftermath of the 2008 financial crisis, regulators strengthened capital standards under the global Basel frameworks to enhance financial stability. While these reforms made banks more resilient, they also increased the cost of holding certain mortgage-related assets. Over time, banks like Wells Fargo, Bank of America and JPMorgan’s share of mortgage originations declined significantly. At the same time, non-bank lenders gained dominance.
A key factor was the regulatory treatment of mortgage servicing rights (MSRs). Strict capital deductions and a 250% risk-weighting requirement made MSRs capital-intensive for banks. As a result, many institutions chose to sell servicing portfolios to non-bank firms, accelerating the shift of mortgage activity outside the traditional banking sector.
Details of the Proposed Changes by the Fed
The Fed is preparing a series of targeted adjustments aimed at reshaping how mortgage-related assets are treated under bank capital rules. At the center of the proposal is a significant change to the handling of mortgage servicing assets (MSRs).
Currently, banks are required to deduct MSRs from certain components of core regulatory capital, effectively increasing the amount of capital they must hold. This treatment has made servicing rights comparatively expensive to retain, prompting many banks to sell these assets to non-bank lenders. The proposed reform would eliminate this deduction requirement, easing the capital burden and improving the economic appeal of maintaining servicing portfolios in-house.
In addition, regulators are reassessing the 250% risk weight applied to MSRs — a level substantially higher than many other asset classes. By recalibrating the risk weight to better align with observed risk characteristics, the Fed aims to create a more proportionate and risk-sensitive capital framework.
The reforms extend beyond servicing assets to the treatment of residential mortgage loans themselves. Rather than applying broad, standardized capital requirements, the Fed is exploring a more nuanced approach that ties capital charges to measurable risk factors, such as loan-to-value ratios and borrower credit quality. Under this framework, lower-risk mortgages would attract reduced capital requirements, incentivizing banks to expand prudent lending while maintaining safeguards against higher-risk exposures.
Implications of Proposed Changes for Banks & Non-Bank Lenders
For banks such as Wells Fargo, Bank of America and JPMorgan, the proposed changes could meaningfully improve returns on equity in mortgage businesses. Reducing the capital intensity of MSRs and certain residential loans would make origination and servicing more economically attractive.
Mortgage banking provides stable fee income that is less sensitive to interest rate cycles than net interest margins. It also strengthens long-term customer relationships and creates cross-selling opportunities across deposits, wealth management and other financial services. A regulatory reset could help banks diversify revenues and rebuild their competitive position in housing finance.
For non-bank lenders like PennyMac Financial Services and Rocket Mortgage, however, the shift may narrow a structural advantage. These firms expanded rapidly in part because they were not subject to the same capital constraints as banks. If those constraints are eased, competition is likely to intensify.
Greater bank participation could compress pricing, thin margins and shift market share. While non-banks may continue to compete through digital efficiency, cost discipline and niche specialization, the overall outcome would likely be a more balanced and competitive mortgage market.
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This article originally published on Zacks Investment Research (zacks.com).
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The exchange for the debt economy