I’ll never forget the time I was visiting a new home sales
office near Los Angeles in the height of the boom years.
The agent was attempting to explain to the
potential buyer how an Option ARM could help them qualify for a higher loan
balance that could easily be refinanced into a standard 30-year fixed rate
program down the road.
As the alarm
bells started going off in my head, I decided to re-visit the first model
rather than risk challenging the agent’s presumptuous thinking.
It was at that point that I was pretty sure
our industry was firmly in bubble territory.
Fast forward to 2014, and we now have the opposite problem
of not enough credit due to often overly stringent underwriters who prefer to
approve only the best candidates with near-perfect credit scores and reliable
W-2 income. In fact, the problem has
become acute enough that the Mortgage Bankers Association recently revised
their 2014 forecast downwards due to “a combination of rising rates and
regulatory implementation, specifically the new Qualified Mortgage Rule.” The new forecast predicts annual refinancings
this year to be down 60 percent from 2013 (largely due to higher interest
rates) but purchase originations to still rise by 3.8 percent. During the fourth quarter of 2013, the
mortgage businesses for Wells Fargo and JPMorgan Chase were reportedly down by
60 and 55 percent from a year ago, respectively.
As noted in my column last month, the reasons for the
tighter credit are two-fold:
an
incomplete Dodd-Frank Act which means regulations are unclear, and new
Qualified Mortgage Rules which went into effect on January 10
th.
Qualified mortgages are those which are no
longer than 30 years, charge fees and points no more than three percent of the
loan amount and don’t include any negative amortization or interest-only
programs.
For adjustable rate loans,
underwriters now must take into consideration the potential maximum rate and
payment amount over the life of the loan instead of approving based on the
teaser rate alone.
This would seem to
disproportionately impact younger buyers who were previously willing to take a
gamble that their paychecks would improve along with their careers, thus making
higher monthly payments in the future feasible.
Also now largely shut out of the mortgage market are the
newly self-employed, as evidenced by nationally syndicated housing columnist
Lew Sichelman’s disappointing experience to refinance a rental property despite
a credit score of 760 and an LTV of 70 percent.
With less than two years of history of 1099 income, Lew’s equity in
several other properties simply wasn’t relevant under today’s underwriting
criteria.
There may, however, be a signs of a thaw in this somewhat
frozen market. Many eyes are now on
former congressman Melvin L. Watt as director of the Federal Housing Finance
Agency, which oversees both Fannie Mae and Freddie Mac. As opposed to Edward DeMarco, the agency’s
acting director for the past four years, Mr. Watt has already indicated a clear
shift in direction which includes delaying a series of higher loan fees
announced in December and putting access to mortgage credit front and center
ahead of other goals, especially that of scaling back the federal government’s
role in propping up the residential mortgage market.
What this means in the short run is that those buyers
without perfect credit and large down payments will not face higher upfront
loan fees charged by Fannie and Freddie.
In the long run, there remains a larger policy disagreement on the role
of private capital in our nation’s mortgage market, one that would be
completely separate without any connection to government.
And yet in a lending environment of mortgage
rates below five percent, private capital has stayed on the sidelines because
there are too many other competing options which offer higher yields.
Add in the considerable interest rate risk
that an investor takes with a traditional 30-year fixed-rate loan and it’s not
surprising that lenders continue to be picky.
Eventually, however, lenders which rode the now-declining refinancing
wave of 2013 will have to make up that lost business with new loan
originations.
To spur lending, three things should happen. Firstly, Fannie and Freddie will have to
expand the range of mortgages they guarantee without lowering standards. Secondly, the re-emergence of private capital
should occur before government fees are raised.
And thirdly, Mr. Watt should ensure that the 30-year fixed-rate loan
remains a bedrock of housing finance given its historic role as the best way
for homeowners to slowly build wealth without worrying about future interest
rate shocks.
