A comprehensive marketing strategy is needed to engage HELOC borrowers when draw periods expire. Valuable balances and customer relationships are at stake.
Booked during a historic origination surge prior to the recession, wave after wave of home equity lines of credit are reaching the end of the draw period, posing both disruption and opportunity for bank lenders, depending on their preparedness.
This year alone, HELOC accounts holding an estimated $65 billion of outstanding balances will shift strictly into repayment mode. And 2017 will see a peak swell across the industry, with the typical 10-year contractual window for draws closing on myriad accounts representing more than $70 billion of additional balances.
In these cresting conditions, valuable balances and customer relationships are being put into play. Our customer surveys indicate that roughly 30% of the current HELOC origination stream is derived from refinancing lines of credit set to expire. But it cannot be taken for granted that borrowers will re-enlist with their current lenders.
While the situation is generally known, lender responses have been partial at best. Many banks, especially the very largest players, are preoccupied with a troublesome subset of maturing HELOC accounts that pose higher default risk (when borrowers are switched into pure repayment mode and go into “payment shock”). Then there are the distractions of regulatory compliance and proper customer notification when account privileges are set to change.
The missing factor is an integrated product, sales, and marketing strategy. Winning banks will start by systematically analyzing the customer base to clarify customer profiles and line usage patterns, and to set priorities. Targeted campaigns are then needed, both to engage core HELOC customers with higher balances, and to retain customers at risk of leaving when account draw periods expire.
Five factors must come together to make real progress:
- Customer segmentation. As underscored by Novantas research, customers who use their HELOCs primarily for bridge financing and household cash management are quite different from those who borrow periodically for home improvement. Mapping these differences is critical in determining the appropriate outreach.
- Profit optimization. Staying within the context of customer needs and balanced credit extension, there are significant opportunities to optimize relationship profitability when the bank renews/extends HELOCs. Expense and profit projections should be more accurate, given that there is a known history of balance usage and payments with established customers. This often-ignored knowledge, combined with estimations of price elasticity of demand, can be applied in precision pricing.
- Product/offer optimization. Not every customer will want to stay with the HELOC product. Some may want to roll terminal balances into a refinanced mortgage, for example, and those that do will have differing borrowing purposes in mind. The bank should take time to understand likely borrowing purposes and other customer preferences, and tailor offers accordingly.
- Customer contact strategy. Instead of compliance-oriented notifications via surface mail that “your account status is about to change,” the bank needs a multi-channel outreach that matches the right messages and offers with the right customers, conveyed by the most effective means for each recipient, with the right timing.
- Integrated management. An enterprise-wide effort is needed, with customers at the center. It can be difficult to pull all of the pieces together – customer analytics, product and offer personalization, pricing, promotion, distribution and sales, fulfillment – but the effort is amply justified.
On the strength of these initiatives and skills, winning institutions can expect to materially improve their success in extending/preserving valuable HELOC balances and customer relationships when accounts reach the end of the initial draw period. Adept players also can leverage advanced approaches to win accounts expiring at competing banks – a market share play that is sitting right out in the open but rarely pursued today.
Echoes from the Gold Rush
The origins of today’s end-of-draw turbulence trace back to the pre-crash market of a decade ago. In an era marked by skyrocketing housing values and rapid churn, consumers used the home equity line of credit for supplemental financing to buy even more properties – on top of expanded borrowing for home improvement and big ticket purchases.
In 2006, the peak year for originations, banks extended $430 billion of HELOCs, an amount equaling 80% of prior-year outstanding balances. Almost all of the credit lines booked during those years were structured as 10-year draws.
Now, a decade later, surviving accounts are transitioning into the pure repayment phase, with no further credit extensions permitted under the original contractual terms. Based on industry trends and Novantas projections, we estimate that nearly 40% of industry balances will hit end-of-draw over the three years extending from 2015 to 2017 (Figure 1: Echoes from The Pre-Crisis Origination Boom).
Understandably, banks have been preoccupied with the risk implications. Following the housing downturn, a certain cohort of less creditworthy borrowers continued to draw heavily on their home equity lines, ultimately generating a huge overhang of non-performing loans that plague the largest originators to this day. In some circumstances, end-of-draw becomes a potential credit deterioration or default event, providing a focal point for loan workout programs for distressed borrowers.
While crucial, defensive efforts should not be permitted to overshadow the upside considerations with end-of-draw – questions about how to preserve valuable customer relationships and extend lending possibilities with the solid majority of accountholders who handle credit well and may have further needs.
Today’s contact strategy typically is a calendar-driven exercise based on the remaining time until draw periods expire. The bank usually will have a standard menu of treatments and offers, but nothing on the order of an orchestrated proactive outreach. Many needs/eligibility considerations – borrower profiles, line usage and repayment patterns, overall relationship depth and product usage at the bank, etc. – simply are not considered at sufficient analytical depth to be of much use in driving positive outcomes.
Segment Profiles and Demand
Keeping customers front and center, the fundamental step in crafting a proactive end-of-draw strategy is to evaluate likely ongoing borrower needs. Given continued low rates and the recovery in U.S. employment and housing values, it is likely that many accountholders will have credit demands that extend well beyond the original terms of HELOC accounts booked a decade ago. But who are these targets?
Based on Novantas research and customer behavioral segmentation, home equity lenders should focus two main groups of accountholders:
Periodic Borrowers. The heart of the traditional HELOC business revolves around homeowners who occasionally tap their lines for select, high-value purposes (Figure 2: Customer Segment Priorities for HELOC End-of-Draw). People in this group borrow primarily for major home renovations, but also for event-related needs such as emergency repairs, replacing major appliances, or perhaps replacing a car.
Generally carrying higher balances, Periodic Borrowers represent a mix of older and younger borrowers and are profitable accounts. In a segmentation framework that considers borrowing frequency and balance carry, this group often comprises roughly half of a given bank’s HELOC customer base, so lenders need to investigate further to understand other sets of segment traits as well.
Revolvers. Comprising roughly a fourth of accountholders, these HELOC customers draw regularly on their lines, evocative of a credit card relationship, and generally carry significant balances that rise and fall depending on changing liquidity needs. Generally profitable relationships, these tend to be younger borrowers with mixed credit ratings. Their financial frame of reference tends toward cash management, which presents a different set of possibilities for marketing, product design and cross-sell.
Revolvers shop the product before buying and use more online research, shifting more emphasis to the web and mobile experience. Novantas survey respondents from this segment express more confidence that they got a good rate, reflecting price sensitivity, yet from a bank perspective this discount orientation must be balanced with solid-but-less-than-perfect credit profiles that call for somewhat higher risk-adjusted pricing.
The flip side is that the bank also needs to understand where not to look. In Novantas survey work, for example, it became clear that more than a few people are holding accounts with no specific borrowing purpose other than standby credit. Comprising 14% of our survey set, these Emergency Only accountholders seldom use their home equity lines of credit, which are mostly originated for contingency use only.
Even when these customers draw on their lines they try to quickly retire balances, with no intention of further borrowing. Many of these accounts are originated in the branch, fueled by cross-sell efforts with affluent checking customers. Most currently lose money for the bank and would continue to do so if extended.
A final small subset (roughly 8% of the customer base) is typically composed of Pay-Downs, or people who have either retired large balances or taken only modest draws over the life of the account relationship. Largely derived from older customers and more stable households, these account relationships at best are only modestly profitable.
Building awareness of non-housing-related HELOC uses, such as college tuition and auto finance may help, but the larger opportunity may be expanding other aspects of the banking relationship. This customer base most naturally migrates into the repayment feature of the HELOC.
Swinging into Action
Looking primarily within the Periodic Borrower and Revolver customer groups, the bank can develop an analytical view of further potential credit demand. Factors include draw and repayment patterns, observed types of funds usage, demographic profiles, usage of other products within the bank, and estimates of total household income and external credit usage.Combined with views of relationship profitability at both the product level and with the bank overall, these research findings provide critical guidance in setting marketing priorities: who to target, their likely ongoing needs, context for offers, pricing, etc.
As the bank swings into action, several campaign success factors will require particular attention:
Product education. Our survey work shows widespread gaps in consumer knowledge of the HELOC product (Figure 3: Awareness of HELOC Product Possibilities). This gap is often seen among seasoned HELOC users as well. Revolvers, for example, may not know they can refinance with their current lender. By helping people to understand all of the applications and conveniences of the HELOC product, the bank increases the odds of extending relationships at end-of-draw.
Early intervention. The bank should anticipate customer reactions and establish marketing goals before the first mailing. In particular for Revolvers, as soon as they are told that the line will no longer be available for regular draws, the entire cash management objective is closed off and they will likely look for a replacement. For Revolvers, offer the refi upfront with the first mailing.
Segment tailoring. Communications and offers should be framed in a way that reflects the orientation of the borrower and likely future needs. In some cases end-of-draw provides a discussion basis for other types of credit products that may work better for the customer going forward. In other cases people just want current credit facilities to be preserved. Revolvers will want to maintain revolving credit, for example, so it is essential to emphasize that option in each communication.
Contact strategy. It is a reasonable estimate that more than 90% of HELOC accounts now reaching end-of-draw were originally booked in a consultative sales environment in a bank branch. Surface mail and electronic messaging have their place, but a large majority of customers will require some level of personal interaction when making important decisions about what to do when draw periods expire. Close coordination with local branch sales staff will be needed, and call center representatives will have an increasing role to play as well.
Clearly a certain amount of organizational horsepower is needed to drive a comprehensive program to address HELOC end-of-draw. The top-level requirements should not be foreign to the folks in strategic marketing; it is a matter of applying fresh energy and expertise to build out specific applications in the HELOC space.
- At the conceptual level, the bank will need the right frameworks for behavioral segmentation; customer relationship valuation and prioritization; and precision pricing based on elasticity of demand.
- At the capability level, the HELOC team will need comprehensive data and advanced analytics; dynamic targeted marketing; and effective skills in developing innovative value propositions.
- At the management level, the priority is enterprise-wide change management, buy-in and participation – including the line of business and its distribution underpinnings, marketing, analytics, risk management and compliance.
There are two major ways that all of this effort can be further leveraged. First, all of this work is directly applicable in optimizing balance growth and profitability across the broad ongoing HELOC customer base – not just the subset nearing end-of-draw. Second, much of it is useful in off-us customer acquisition. Notification of approaching end-of-draw often starts people thinking about where they may want to turn; marketing-savvy lenders will capitalize by enlisting customers left unattended by slower players.
Ryan Ritz is a Managing Director and Zach Wise a Principal in the Charlotte office of Novantas, and Lee Kyriacou is a Vice President in the New York office. They can be reached at email@example.com, firstname.lastname@example.org, and email@example.com.