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Edited Transcript of OCN earnings conference call or presentation 22-Feb-17 10:00pm GMT

Thomson Reuters StreetEvents

Q4 2016 Ocwen Financial Corp Earnings Call

WEST PALM BEACH Feb 23, 2017 (Thomson StreetEvents) -- Edited Transcript of Ocwen Financial Corp earnings conference call or presentation Wednesday, February 22, 2017 at 10:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Stephen Swett

Ocwen Financial Corporation - IR

* Ron Faris

Ocwen Financial Corporation - President & CEO

* Michael Bourque

Ocwen Financial Corporation - EVP & CFO

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Conference Call Participants

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* Bose George

Keefe, Bruyette & Woods - Analyst

* Fred Small

Compass Point - Analyst

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Presentation

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Operator [1]

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Good day, ladies and gentlemen and welcome to the Ocwen Financial fourth-quarter 2016 earnings conference call. (Operator Instructions). I would now like to introduce your host for today's conference, Mr. Stephen Swett. You may begin.

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Stephen Swett, Ocwen Financial Corporation - IR [2]

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Good afternoon and thank you for joining us today for Ocwen's fourth-quarter and full-year 2016 earnings conference call. Before we begin, please note that a slide presentation is available to accompany today's call. To access the presentation, please go to the shareholder relations section on our website at www.ocwen.com and click on the Events and Presentations link.

As a reminder, the presentation and our comments today may contain forward-looking statements made pursuant to the Safe Harbor provisions of the federal securities laws. These forward-looking statements may be identified by reference to a future period or by use of forward-looking terminology. Forward-looking statements by their nature address matters that are to different degrees uncertain.

Our business has been undergoing substantial change, which has magnified such uncertainties. You should bear these factors in mind when considering such statements and should not place undue reliance on such statements. Forward-looking statements involve a number of assumptions, risks and uncertainties that could cause actual results to differ materially.

In the past, actual results have differed from those suggested by forward-looking statements and this may happen again. Our forward-looking statements speak only as of the date they are made and we disclaim any obligation to update or revise any forward-looking statement whether as a result of new information, future events or otherwise.

In addition, the presentation and our comments contain references to non-GAAP financial measures such as adjusted operating expense, adjusted pretax income, adjusted pretax income before corporate debt expense, normalized adjusted cash flow from operations, illustrative service and cash flow or servicing cash generation, adjusted liquidity, the off-balance-sheet value of some of our economic assets and the economic value to Ocwen of our MSRs.

We believe these non-GAAP financial measures provide a useful supplement to discussions and analysis of our financial condition. We also believe these non-GAAP financial measures provide an alternate way to view certain aspects of our business that is instructive.

Non-GAAP financial measures should be viewed in addition to and not as an alternative for the Company's reported results under accounting principles generally accepted in the United States. For an elaboration of the factors I just discussed, please refer to our presentation in today's earnings release, as well as the Company's filings with the Securities and Exchange Commission, including Ocwen's 2016 Form 10-K, which should be filed soon.

Joining me on the call today is Ron Faris, President and Chief Executive Officer and Michael Bourque, Chief Financial Officer. Now I will turn the call over to Ron.

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Ron Faris, Ocwen Financial Corporation - President & CEO [3]

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Good evening and thank you for joining us today. 2016 was a year of significant accomplishments as we've worked to transform Ocwen. Quite simply, the team performed at a high level, executed well and achieved significant progress. We went from a large loss in the first half of the year to about breakeven in the second half, made great strides in right-sizing our cost structure and continued investing in our growth businesses. We also made significant progress on many legacy matters.

Due to our continued revenue decline from portfolio runoff, we knew coming out of last quarter that it would be a challenge to duplicate or improve upon the results this quarter. However, had we not taken some additional regulatory reserves, we would have reported a profit in Q4 as well.

I am very proud of the results our team has produced under difficult circumstances. We are excited to tackle the challenges ahead and we believe we can be a leader in all of our business segments.

We entered 2016 focused on three primary areas -- our core financial performance, our legacy regulatory challenges and our future growth prospects. We ended the year with significant progress in all three areas, which we hope to build upon in 2017. Many of these successes are highlighted on page 5 of our presentation.

In addition to the improved P&L performance in the second half of the year, some of the highlights include resolving significant legal and regulatory matters, increasing our servicer ratings, refinancing our corporate debt, improving our customer service levels and helping 75,000 struggling families remain in their homes.

On that last point, we remain steadfast in our belief that the Ocwen team has done more than any other financial services firm to help homeowners recover from the housing crisis. Without Ocwen's outstanding performance and leadership under former President Obama's Making Home Affordable program, the program would have been far less successful and the housing recovery would certainly have taken longer.

While the HAMP program has now ended, we know that there are still homeowners out there struggling and our work is not done. We remain committed to leading the way with new and improved loan modification products. Despite the clear progress that we have made, we still have much work to do in 2017.

On our financial performance, we are currently anticipating a loss in 2017 driven by a few factors. Our servicing revenues continue to decline due to the portfolio runoff and the expiration of HAMP in 2016; our corporate overhead costs remain too high relative to our current business operations. While legal and regulatory costs are improving, they are still too high and growth will remain challenged as we currently remain unable to acquire bulk servicing portfolios and our lending businesses, while growing, are too small to contribute substantially to overall profitability.

We are working to bring our corporate overhead in line and our legal and regulatory costs are expected to continue to decline as we resolve more of our legacy issues. Most importantly, we need to generate new top-line growth and I will discuss our thoughts around that in a moment.

Despite the recently announced settlement with California, certain regulatory challenges remain. If we are unable to settle with the Bureau, we face possible CFPB enforcement action. Our New York DFS monitorship could be extended and our ability to grow through MSR acquisitions currently remain restricted.

State and regulatory oversight is increasing and we must, like all industry participants, continue to respond to the evolving regulatory landscape, which means we have to continue to invest resources to adapt our policies, processes and systems.

In other words, the regulatory risk and cost burden remain high. Fortunately, our servicing business has continued to improve its cost structure and perform well, generating $76 million in pretax profit in the second half of 2016 compared to a loss of $83 million in the first half of the year.

Our third-party monitor costs, which totaled $82 million in 2016, have also declined significantly in the second half of the year, which is critically important to our future. We are also looking at a number of technology enhancements that we believe can deliver additional cost savings, efficiencies and improved effectiveness.

Still we must grow revenue to fully unlock the potential of our platform. Our ability to resume growth through asset generation therefore remains a critical long-term issue and a central focus of our vision and strategy. While rising interest rates will likely reduce industry mortgage origination volumes in 2017, we believe we can still grow our origination volume and marketshare as we expand our wholesale footprint and add resources and capacity to our recapture program.

With the California settlement, we will now be able to retain within our servicing portfolio more of our originations in that state. Our automotive floor plan lending business, ACS, continues to expand, but the bottom-line impact for now is still quite small. We still believe that there is a sizable opportunity if we are successful rolling out the product on a national scale.

And although MSR acquisitions remain restricted by New York State, with the California settlement, we are one step closer to reentering the bulk MSR acquisition market. We believe that the improvements we've made in our cost structure and our overall compliance management system position us well to once again compete for all types of mortgage servicing rights if we so choose.

Before I discuss our strategy for 2017 and beyond, let me make a few comments about the state of the mortgage industry as I see it. Non-bank servicers will continue to face scrutiny. Exits from the servicing business like we saw with Citibank will likely continue. There have been many observations about the impact of changes in Washington on financial services in general. While we may see changes over time at the Federal level, we believe that ensuring that our businesses can meet the needs of our customers will ensure long-term success regardless of the regulatory environment.

Due to the cost of regulation, scale has become far more critical for servicing and originations than in the past, which is driving some industry consolidation and we expect that to continue. Origination volumes will be down significantly in 2017 as refinance activity falls and originators will struggle to reduce costs fast enough.

Our legacy portfolio has some advantages relative to others in this regard as borrowers in our portfolio with improving credit will still find value refinancing their loans. FinTech and technology innovation will eventually disrupt the way mortgages are done today. Nevertheless, we believe that that success will depend on the ability to quickly adopt and adapt to the changes rather than to a single player. Thus, Ocwen is highly focused on building flexible technology as a core component of our lending strategy.

Just as important, recent activity involving various MSR and sub-servicing transactions such as PHH and Citi lead us to believe that the opportunities to add servicing are building, especially for those servicers with capacity and that are committed to compliance and helping homeowners.

While addressing these challenges and opportunities for Ocwen, we need to remain laser-focused in the near term on putting our legacy concerns behind us so we can reemerge as a strong competitor. Our top-seven priorities for 2017 now that the California settlement is complete are number one is ending our current consent order with the New York DFS; thus substantially reducing or eliminating the costs of New York monitor and regaining the ability to acquire MSRs again.

While some of this has taken and may continue to take more time than we would like, we have made progress and it must occur soon if we are ever able to compete again. We are committed to continuing to demonstrate to the New York DFS and all of our regulators the significant transformation that has occurred at Ocwen over the past couple of years.

We are the only large mortgage servicing company that has had and continues to have severe restrictions on acquiring new MSRs. We have effectively had those restrictions for over three years now and we have seen our servicing portfolio decline from approximately $460 billion to just over $200 billion today.

During that time, we have worked tirelessly to improve while continuing to help more homeowners than other servicers and we believe we have earned the opportunity to compete again. Over the past two years, we've seen our servicer ratings and rankings decline and then rise again in 2016 after agency reviews of our improved practices were completed.

Most recently, S&P increased our servicer rankings back up to average. We have had two independent third-party reviews of our servicing practices by Duff & Phelps and [Marie] Analytics as a result of allegations by certain RMBS investors. Both reviews concluded that the allegations examined were baseless.

We have seen encouraging results from more recent routine audits performed by GSEs and other counterparties and, as previously reported, we have successfully completed over 170 benchmarks established by our New York monitor as a precursor to being allowed to acquire MSRs again.

Internally, we have invested heavily in compliance and risk management. We believe these operations are now mature and delivering improved controls and results as evidenced by industry-leading declining CFPB complaint volume and substantially improved customer service ratings on consumeraffairs.com.

We have grown our internal technology team, invested in infrastructure and we have upgraded to industry-leading servicing system components such as Equator and Back in the Black. We have completed various internal risk assessments and compliance reviews resulting in substantial upgrades to and the automation of many internal controls.

We have had numerous independent reviews of the default management fees charged to consumers in the course of normal servicing practices and all have supported our position that we are operating in line with other large servicing customers.

Finally, our performance under the HAMP program is the best in the servicing industry. Ocwen has helped more homeowners through the HAMP program than any other servicer by a wide margin and we delivered value to RMBS investors in the process.

Our success in helping homeowners has been and continues to be recognized positively by housing counselors and consumer advocates nationwide. We have built a new Ocwen, a better Ocwen and now we believe it is time to grow again.

Moving back to our priorities in 2017, our second priority is to reach a fair and reasonable resolution with the CFPB. Third, continuing to improve our regulatory relations with all state regulators. Fourth, resolving our securities and other noted legacy litigation. Fifth, completing our mortgage origination technology development so we can improve efficiencies and effectiveness, reduce our technology costs and eliminate manual non-value added work; thus enabling sustainable and cost-effective growth. This will also allow us to more aggressively expand our capacity and marketing efforts. Sixth, continuing to find additional meaningful cost improvements, especially in our corporate functions. And seventh, prudently growing our ACS business.

With the progress we have made to improve our businesses and create a foundation for an asset generation capability, we believe we are well-positioned to be able to move forward in our markets and grow again.

Thank you. I will now turn the call over to Michael Bourque who will discuss in detail our Q4 and 2016 financial results. Michael.

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Michael Bourque, Ocwen Financial Corporation - EVP & CFO [4]

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Thank you, Ron. In my comments today, I will discuss our fourth-quarter financial results, discuss our progress reducing costs and summarize our balance sheet and liquidity position as we enter 2017.

Let me begin by stating that our fourth-quarter results were in line with our expectations and directionally consistent with the progress we made in the third quarter. We recorded a net loss of $10 million, $20 million worse than the $9 million profit last quarter. I would again note that, in the second half of 2016, we lost only $1 million after-tax versus $198 million loss in the first half of the year. That is terrific progress.

Our fourth-quarter revenue was $324 million, which was down $36 million from the prior quarter. Servicing revenue was $295 million, down 7% quarter to quarter as expected due to the runoff of our servicing UPB and lower HAMP fees as that program winds down.

As it relates to HAMP, during the fourth quarter, we completed more than 4100 streamlined HAMP modifications, generating $9 million in incremental revenue and we still expect to complete over 7500 HAMP modifications in the first quarter of 2017, which reflects completed modifications to borrowers who were offered modification trials before the expiration of the program at the end of 2016.

In the fourth quarter, our origination volumes totaled $1.3 billion compared to $1.4 billion in the third quarter. Forward mortgage origination volume was $1.1 billion, down 12% compared to the third quarter of 2016. Reverse mortgage origination volumes totaled $214 million in the quarter, up 1% compared to the third quarter of 2016. The decline in forward originations was largely due to seasonality. Both our forward and reverse products were up versus the fourth quarter of last year. Our wholesale and direct channels drove the forward business up 32% over last year and our correspondent channel drove our reverse business up 24% over last year, which is particularly impressive in the face of a 14% industry-wide reduction in reverse mortgage volumes.

We view the year-over-year growth in both forward and reverse volumes as a positive indicator of what is to come; although we recognize we still have a long way to go. Our lending business delivered revenues of $23 million, which were down from $31 million in the third quarter. Gain on loans held for sale decreased $3 million to $16 million due to lower forward origination volumes and other revenue declined to $7 million.

Moving on to discuss expenses. Total operating expenses were $238 million, down $34 million or 12% from the third quarter. This was driven by a $29 million higher benefit in the Ginnie Mae and GSE MSR fair value change compared to Q3 driven by the increase in interest rates in the fourth quarter.

We also saw a $7 million reduction in our monitoring expenses. The remainder of the cost structures saw some increases and decreases that largely offset and that detail is available in the appendix to our earnings presentation.

From an other income expense standpoint, costs were $11 million higher than the third quarter driven by the recognition of $16 million of corporate debt-related refinance expenses associated with our debt exchange and term loan refinance in December. We will talk more about the debt exchange in a moment, but these transactions were a big deal and a terrific accomplishment for the Company. We significantly extended the duration of our corporate debt giving us additional time to work through our transition and saw great support from our lenders.

Additionally, the pricing was far better than we expected when we contemplated this transaction earlier in 2016, so we were very pleased.

From a cash standpoint, the business, despite its GAAP income losses, continued to generate positive operating cash flow. Cash from operating activities was $124 million in the quarter driven by operating performance, reductions in advances and lower working capital tied up in loans held for sale.

On the next slide, you can see the illustrative cash generated by the servicing business, which is a non-GAAP measure, but informative. Even in periods of losses, the businesses generated significant positive cash flow.

Moving on to the next slide, you can see our corporate debt and liquidity position. During the quarter, as mentioned before, we successfully refinanced our senior unsecured notes and senior secured term loan. In December, we exchanged $347 million of 6 5/8 senior notes for an equal amount of 8 3/8 senior secured second lien notes effectively extending the maturity by three years to 2022.

We also executed a new $335 million senior secured term loan credit facility with an initial interest rate of 6%. This facility has a maturity date of December 2020 and replaces the prior senior secured term loan, which had a maturity date of February 2018, as well as a 3 point fee, which would have been due next month. These refinancings were a significant focus for us in the second half of 2016 and we were extremely pleased with the execution we achieved.

We ended the year with $257 million of cash on the balance sheet. Adjusting for material, expected and potential settlement payments, our adjusted liquidity at year-end was about $189 million similar to where we were last quarter.

In conclusion, we made clear progress in 2016. If you look at page 45 in the appendix of the investor presentation, for illustrative purposes, you can see that our adjusted pretax income in 2016 was a $1 million profit compared to a loss of $37 million in 2015. Unfortunately, the continued regulatory restrictions on our ability to grow have caused us to lose economies of scale and we will be exploring various alternatives to address this issue in 2017.

That completes our prepared remarks. Operator, can you please open the call to questions?

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Questions and Answers

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Operator [1]

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(Operator Instructions). Bose George, KBW.

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Bose George, Keefe, Bruyette & Woods - Analyst [2]

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The first question, in terms of future growth, once you settle or assume you settle with the New York DFS, at that point, can you acquire MSRs or does the issue with the CFPB need to be resolved as well?

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Ron Faris, Ocwen Financial Corporation - President & CEO [3]

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If the New York restriction is lifted, there would be no restriction on our ability to acquire MSRs.

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Bose George, Keefe, Bruyette & Woods - Analyst [4]

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Okay. And then the regulatory reserve that you booked this quarter, does that suggest that you have some visibility into a resolution over there?

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Ron Faris, Ocwen Financial Corporation - President & CEO [5]

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I think what I'm going to do is we will have our Q out shortly and I think we will just direct you to the disclosures that we have in there on that point, but I'm not going to discuss that on the call today.

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Bose George, Keefe, Bruyette & Woods - Analyst [6]

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Fair enough. In terms of the monitor expenses, you said though it's $82 million for the year. Is that both for California and New York combined?

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Ron Faris, Ocwen Financial Corporation - President & CEO [7]

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So that is California, New York and the national monitor, which is still in place, so it's all three.

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Bose George, Keefe, Bruyette & Woods - Analyst [8]

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Okay. Actually one last one. Do you have the number for the HAMP, the fees for the fourth quarter? And when we think about HAMP going forward, does that pro rate down over three years, that number goes from what it is now down to zero just over three years?

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Ron Faris, Ocwen Financial Corporation - President & CEO [9]

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It will come down over that three-year period. We are not going to forecast it, but, Michael, I will let you answer the first part.

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Michael Bourque, Ocwen Financial Corporation - EVP & CFO [10]

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Sure. In the quarter, and you'll see it in the filing, Bose, we had $22 million of HAMP fees, down about $10 million from last quarter and I think, last quarter, we indicated to folks that just on a run rate basis, we might expect a $70 million headwind or so in 2017 from HAMP. And we are not necessarily updating that, but that is probably directionally correct guidance.

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Bose George, Keefe, Bruyette & Woods - Analyst [11]

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Okay. Great. Thank you.

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Operator [12]

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Fred Small, Compass Point.

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Fred Small, Compass Point - Analyst [13]

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Just on the guidance for 2017 for a loss, how much cost do you think you need to take out in order to break even or generate a profit? Can you help us scale that at all or size it?

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Ron Faris, Ocwen Financial Corporation - President & CEO [14]

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Yes. No, I don't think we can -- we are not going to give specifics on that. Michael just spoke about the decline in the HAMP revenue. So obviously, that's revenue that is going away and we would need to find cost reductions to offset that, but we are not going to give actual guidance on what that expected loss -- what our expected view on that loss is, nor what our cost reductions are going to be.

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Fred Small, Compass Point - Analyst [15]

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Okay. Is it something that you think is -- is there a scenario where breakeven or profitability is achievable in 2017?

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Ron Faris, Ocwen Financial Corporation - President & CEO [16]

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I'm not going to comment on that, Fred.

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Fred Small, Compass Point - Analyst [17]

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Okay. Just as a result of the -- congratulations on terminating the consent order with California. Is there any sort of -- do you have a sense of how much monitor expense goes away as the California auditor drops off?

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Ron Faris, Ocwen Financial Corporation - President & CEO [18]

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As you saw, we saw a significant decline in the monitor expense in the fourth quarter or once you dig into the numbers, you will see that. I think we've talked about the fact that the New York monitorship, the two-year consent order ends or at least the monitorship, the two-year monitorship is scheduled to end at the end of March. We don't have word yet as to whether it will be extended or not. If it were to end, there would be an additional dropoff, but I think the fourth quarter would be a good proxy for the first quarter. After that, it's really going to depend on what happens to New York and the national monitor should also start to wind itself down as the year progresses into 2018. But I'm not going to go beyond that.

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Fred Small, Compass Point - Analyst [19]

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Okay. And for the lending segment, I think that you said either in the deck or in the presentation that you expected you could grow volumes in 2017. Do you think that the lending segment can generate a profit in 2017? Is Q4 an anomaly there just because of the move in rates?

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Ron Faris, Ocwen Financial Corporation - President & CEO [20]

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So, yes, we did say in I think both my prepared remarks and in the presentation that, despite rising rates and what we anticipate will be a pretty big slowdown in the overall market, that we are still in a position to grow our origination volumes over what we had in 2016. We think partly because of the makeup of our portfolio, partly because we are still putting in place various pieces like technology to position ourselves better to go out there and expand. But, yes, we do think that we can be profitable in our origination segment next year. There is no guarantees of that, but we do think we can be profitable.

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Fred Small, Compass Point - Analyst [21]

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Okay. Got it. And last one just on the CFPB. Any sense of timing or how long that may take to actually get resolved with whatever the issue is?

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Ron Faris, Ocwen Financial Corporation - President & CEO [22]

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Again, I think like with Bose, I'm going to just point you to the disclosures in the 10-K, which will be out soon and that's all we are going to say about that at this point in time.

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Fred Small, Compass Point - Analyst [23]

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All right, thanks a lot.

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Operator [24]

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(Operator Instructions). I'm showing no further questions at this time. That concludes today's Ocwen Financial Corporation earnings call. Thank you for attending and you may disconnect. Thank you.

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Ron Faris, Ocwen Financial Corporation - President & CEO [25]

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Thank you, everybody.

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Michael Bourque, Ocwen Financial Corporation - EVP & CFO [26]

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Thanks.