China Warehouse is frequently characterized as a low risk, high yield business, yet there is a shortage of warehouse lenders. The large national lenders have either dropped out of the market entirely, or have restricted their lending to very large customers and very generic product. Many of the remaining second tier lenders focus primarily on early purchase programs for their own product.

Regional and community banks, which tend to be highly sensitive to the needs of their present. And prospective customers, are reluctant to rush into a line of business. That has recently dropped by so many of its largest long-term players.

With demand high, concern about lack of yield isn’t likely to be keeping lenders out of the warehouse business. Perception of risk seems to be the more likely cause of the shortage of providers. Risk, however, can prepare for and manage profitably, but first it needs to identified.

So, where’s the risk?

To see the risk more clearly, let’s take a minute to look at the business. The warehouse lender’s customer is a mortgage bank that makes loans to consumers, closes loans in its own name. And sells the loans on the secondary market to takeout investors under pre-existing correspondent lending contracts. Which provide for, among many things, repurchase by the seller of loans that contain defects (including but not limited to fraud) or which fail within a defined period of time.

The customer will generally identify loans it intends to finance no more than 24 clock hours in advance of closing by providing the warehouse lender with a funding request accompanied by the pre-funding documentation required under the warehouse lending agreement. Note that closing has not yet occurred, and that the warehouse lender’s money will move to the closing agent before final documents exist.

After closing, final documents required by the warehouse lending agreement are sent to the warehouse lender. The customer assembles the balance of the investor package. Including satisfaction of all open stipulations, and sends it to the designated takeout investor. As soon as the lender’s investor package is ready, the lender notifies the warehouse to ship the balance of the package (principally the original Note) to the takeout investor.