What it means
Every mortgage passes through stages. A borrower applies, the file is processed and underwritten, the loan is approved, and the funds are released at closing.
Loans that have entered the process but have not yet closed make up the pipeline. Not every loan in the pipeline will close.
Some borrowers change their minds, fail the credit checks, lose their jobs or choose a different lender. The share that does close is called the pull-through rate, and lenders track it closely because it turns a gross pipeline figure into a realistic forecast.
The pipeline matters for finance in two ways. It drives revenue forecasts and staffing, because a full pipeline means a busy few months.
It also creates interest rate risk, since a lender often promises a rate to a borrower weeks before the loan is sold. To manage that risk, lenders hedge.
They take positions in financial contracts that gain value if rates rise, offsetting the fall in value of the loans they hold. The size of the hedge depends on the expected pull-through, since over-hedging is as costly as under-hedging.
Lenders also manage the pipeline operationally. They watch how long files take at each stage, as delays raise costs and can cause borrowers to walk away.
A pipeline report that shows where files are stuck helps managers to move staff where they are needed. Finally, readers should be careful about comparing pipelines across firms.
Definitions differ, with some counting only locked loans and others counting every application. Always ask what is included before drawing conclusions.
In practice
Real-world examples.
Example
A mortgage company has $80,000,000 of applications in process at the start of a quarter. Its operations head applies a 65% pull-through rate and expects to fund $52,000,000. She schedules staff to match that expected volume and reviews the figure again two weeks later to see whether the assumption still holds.
Example
A lender's treasury team sees interest rates rising sharply while the pipeline holds $30,000,000 of loans with locked rates. It hedges part of the pipeline so that a fall in value of those loans is offset by gains on the hedge. The hedge costs a small fee but protects the quarter's profit. Management accepts this cost because losing the margin on the whole pipeline would be much more expensive.
Example
An investor looks at a mortgage lender's quarterly results and sees that its pipeline has shrunk by 30%. She reads this as a sign that revenue next quarter will be lower. She cuts her forecast for the lender's earnings before the results appear, and she watches for confirmation in the next set of numbers.
Formula
Calculation
Expected Closings = Pipeline Volume x Pull-Through Rate
Expected Revenue = Expected Closings x Revenue Margin
Suppose a lender has $50,000,000 of loans in its pipeline and the historical pull-through rate is 70%. Expected Closings = 50,000,000 x 0.70 = $35,000,000. If the lender earns a revenue margin of 3% on closed loans, Expected Revenue = 35,000,000 x 0.03 = $1,050,000. If the pull-through rate fell to 60%, expected closings would be 50,000,000 x 0.60 = $30,000,000 and revenue would be $900,000, so each 10 points of pull-through is worth $150,000 here.Case study
Seen in the real world.
Riverbend Mortgage is an illustrative, fictional lender with a pipeline of $120,000,000 in the spring. The finance director assumed that 80% would close and planned costs on that basis.
When rates rose, many borrowers withdrew, and the actual pull-through rate fell to 60%. Closings came in at $72,000,000, not $96,000,000, leaving the lender with more staff than it needed.
The finance director rebuilt her model with a lower, rate-sensitive pull-through assumption and set a rule for flexing staffing costs, such as using temporary staff for peaks instead of permanent hires. She also began reporting pull-through to the board every month. The illustrative lesson is that a big pipeline figure is only useful when it is adjusted for how many loans will really close.
Watch out
Common mistakes.
- Treating the whole pipeline as future revenue, when a share of applications never reach closing.
- Ignoring interest rate risk, when rate moves between the promise and the sale can erase the lender's margin on every loan in the pipeline.
- Comparing pipelines between lenders without checking what each one counts.
Questions
People also ask.
What is pull-through?
It is the percentage of loans in the pipeline that actually close, and it is used to turn the raw pipeline into a forecast.
Why do lenders hedge the pipeline?
Because they have promised rates to borrowers, and rising rates before the sale would reduce the value of the loans.
How can I read a pipeline figure as an outsider?
Look at the trend over several periods and compare it with the lender's past closings, rather than relying on a single snapshot, and check how the lender defines the pipeline.
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