Internet rumors have been swirling around Zillow Group, Inc. (NASDAQ: Z) (NASDAQ: ZG) since a video appeared on March 8 that warned loan brokers of a noncompliance issue purportedly raised by the Consumer Financial Protection Bureau (CFPB). Supposedly, CFPB examiners had been asking loan officers if they were buying leads specifically from Zillow. The stock has since dropped about 5%.
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As an investor, my antennae go up whenever I hear a rumor about a company in my portfolio. It's a natural tendency to imagine the worst: Our fear of loss, psychology researchers say, is twice as powerful as the pleasure we take from a gain. In every case my initial reaction is to take no action other than to research the rumor, and see if it has any merit and whether it will have any effect on the company long-term.
Image source: Zillow.
What is this rumor all about?
The CFPB was set up in 2010 by the U.S. government to protect consumers following the financial crisis that began in 2007. The specific law that encompasses the rumor about Zillow is from Section 8 of the Real Estate Settlement Procedures Act (RESPA), which was created to protect the rights of borrowers.
Section 8 of RESPA prohibits real estate settlement service providers such as loan brokers, escrow companies, or home inspectors from making payments or kickbacks to anyone including real estate agents or real estate brokers.
The concept is simple. Consumers rely on real estate agents to help them buy a home. If an agent introduces them to a loan broker to arrange the financing on a house, and unbeknownst to the consumer the loan broker is paying the real estate agent a kickback for the business, that agent may not be doing what is best for the client. RESPA's Section 8 makes that activity illegal.
The rumor is that Zillow's lead-generation policy for mortgage brokers violates this law.
What does Zillow offer loan brokers?
Zillow reported $71 million in revenue from its mortgage-focused business for 2017. That would amount to a little over 8% of the company's total revenue.
There are two primary ways for a loan broker to advertise with Zillow. The first method is called Long Form, and Zillow describes it as follows:
It is doubtful that the Long Form advertising platform is at the center of the current rumor.
The second method for loan brokers to advertise is where the controversy lies; it is called co-marketing. Zillow has created a 90-second video explaining the program, which allows mortgage lenders to advertise alongside a real estate agent and split the cost of the ad.
Here is how Zillow describes the program as of March 29:
If Zillow allowed a loan broker to pay some or all of the real estate agent's portion of the cost for an ad, that could be considered a RESPA violation: The agent would be receiving a benefit from the lender. By limiting the co-marketing payment to 50%, it would seem that Zillow is allowing each party to pay their fair share of the cost of the advertising.
The current statement on the Zillow website would seem to be in compliance with RESPA Section 8. And the website does not seem to have been recently updated as a reaction to the March 8 video.
What is a Foolish investor to do?
Investing in a company means that you are relying on the company's management to guide it through any changes that might affect how it does business. I am comfortable holding my Zillow shares, and allowing management to do their jobs.
My belief is that the company will not knowingly violate any law, and if there is a business practice that Zillow must alter, management will make the necessary changes to be compliant with all laws and regulations.
The bottom line is that acting on rumors very rarely makes sense for our portfolios: Human nature may lead us to imagine the worst possible outcome. For investors, learning to manage our emotions during periods of uncertainty may be one of the most important factors in achieving long-term success.
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