The business model of Golden West Financial is the quintessential “3-6-3″ business model. The “3-6-3″ business model is an idealized description used in the past to describe many lenders, namely that they would attract deposits by paying 3 percent interest, lend money at 6 percent, and make a 3 percent profit (a comedic parody was popular, “borrow at 3, lend at 6, and be at the golf course by 3:00PM). In reality however, this is not the model for most lenders mostly because customers many times demand a fixed lending rate over a long period of time. A lender lending at a fixed rate would not be able to increase that rate when general interest rates increased, and this would squeeze the difference between what the lender pays deposits, and what the lender earns from lending. Most lenders instead lend at a fixed rate initially but then sell that debt to investors in the form of bonds, which investors buy desiring a fixed rate of return for their money. There is some difficulties to this process however, firstly the interest rate can change between the time the loan is made and the time the bonds are ready to be sold, either in a favorable way or an unfavorable way. Secondly, the lender can still continue to make money servicing the loan sold as bonds, by sending out bills and collecting money, but this servicing money must essentially be “guestimated” because any borrower has the ability to pay off his mortgage at any time, and these “guestimates” must change (sometimes wildly) depending on interest rate changes. This causes earnings to possibly be more volatile, something almost universally undesirable to company CEOS, who believe that steady growing earnings will increase the price of a companies stock relative to the profits of that company. Finally, when a loan is sold as a bond the investor collects most of the interest, instead of the lender.
Golden West Financial gets around this system by offering some fixed rate mortgages, and instead primarily focusing on pure adjustable rate mortgages whose rate can change once a month based on changes in the index the mortgage is tied to. While the overall demand for these types of mortgages is smaller, by focusing on this form of loan Golden West can retain its portfolio and not sell its loans to investors. In addition, the company’s branch system focuses on those interested in low transaction accounts such as CDs. By appealing to those who do little transactions, and avoiding the expenses of transaction costs, Golden West is able to pay higher rates on CDs, attracting deposits to fund its loans.
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