Who REALLY Can Benefit From Lower Mortgage Rates?

Posted on December 4th, 2008 in Daily Mortgage/Housing News - The Real Story, Mr Mortgage's Personal Opinions/Research

**NOTE – Mortgage loan officers, we want to hear from you in the comments section. How does this summary compare with what you are seeing in your battle zone?

Who can benefit from lower rates?  The answer is ‘a small fraction as in the past’.  I am already seeing analysts reports come out saying things like ‘if rates drop to 5.25% then 6 million people will be eligible to refi’ and ‘this will save the purchase market and builders’.  This in not correct and I will explain why in detail in this post.

First, I am glad to see mortgage rates dropping but it would have been nice to see them drop naturally vs artificially as a result of ‘announcements’ and ‘leaks’ from government agencies. I have always said there are only two ways to quickly stabilize housing pricesa) bring back all of the exotic loans lost in 2007 b) gave everyone 300% raises. These are obviously not going to happen but illustrate how much of a jam the housing market is in.

The only way to ‘fix’ the housing market with the financing available today is for home prices to drop and for the default crisis to end. Both have to happen fast and at the same time. All of this government interference to date has caused nothing but confusion and negative sentiment towards the sector. Home prices have still collapsed and show no signs of bottoming any time soon. Home prices will get back to their historic relationships with rents and incomes eventually and interventions like this only prolong the pain.

The government is trying to control interest rates through talk and selective purchases of mortgage securities that have not kept pace with US Treasuries by any stretch. Real interest rates have been falling yet mortgage rates were staying elevated – spreads widening. Last week it was announced that the Fed would buy $100 billion in debt and $500 billion in actual Agency mortgage backed securities. Of course the market assumed this would be done all at once within 24-hours but as we learn more it is a several quarter plan that will likely be used to control spreads ‘challenges’ like we were seeing before the announcement.

On a sidebar, I maintain that these ‘announcements’ are not so much about lower rates for you and me.  Rather better executions for Bill Gross and Foreign Central Banks who are stuck with trillions of Agency mortgage paper and have been sellers for months in favor of US Treasuries. I am sure you saw Bill Gross threaten the Treasury on national TV before the Fonie and Fraudie bailout. Essentially he said ‘fix Fannie/Freddie bonds or I will tell my large clients not to buy anything for a long time’. Within a couple of days F&F were in conservatorship and their debt ‘effectively’ backed. There is still no ‘explicit’ guaranty, which is likely the reason you do not see a mad rush into this sector as you have the Treasury market so they felt more government meddling was needed. I talk about it in a recent post: Fed Buying Agency MBS – Still No ‘Explicit’ Guaranty.  Time will tell if this is just all talk but as of now Paulson was effective in bringing down base-rates for perfect borrowers from 6% to about 5.5%. However, the latest chatter of 4.5% is more fantasy than reality. I will be shocked if we ever see it.

The housing market cannot be fixed with artificially low interest rates. Remember, we still have millions in the foreclosure pipeline and mortgage defaults at all time highs. The latest wide-scale mortgage modification attempts fall very short of being a permanent solution – please see story The Great Mortgage Modification Pump – GOD SAVE US ALL! (249). As long as borrowers are defaulting and losing homes to foreclosure we will be in a housing crisis.

Let’s Pretend

But let’s pretend for a moment that there were not two to three times the number of homes going into default and foreclosure than selling each month.  Who out there can actually take advantage of these lower interest rates? Analyst with their antiquated modeling systems seem to think that at 5.5% a refi and purchase boom will ensure that will solve the housing crisis. I maintain this is a different world and interest rates do not mean what they used to. I talk about it in this recent story – Mortgage Rates Drop! It Does Not Mean What it Used to (67)

WHO REALLY CAN BENEFIT FROM LOWER RATES

REFINANCE

During the boom years when rates slammed down 50bps like we saw last week, it seemed that the entire nation would refi or re-refi at once. Refi’s drove the mortgage industry during the bubble years and loan officers lived for the next refi boom that seemed to come ever six months or so. Purchases ran a distant second making up 20% of activity at best.

Serial refinancing as values soared double digit percentages per year was a massive stimulus to the consumer, housing market and broader economy. With each refi came lower payments in the case of a rate & term refi; much lower payments when a borrower switched programs from a 5/1 interest only to Pay Option ARM; or lots of cash from a cash-out refi. Combining an existing first and second mortgage into a larger first mortgage and then adding a new second mortgage every year gave homeowners a major liquidity shot in the arm that was used from everything from vacations, plastic surgery, cars, jewelry and remodeling.

Now with values down in the bubble states on average near 50% in the past 18 months, most homeowners and serial refinancers are underwater or ‘near’ underwater meaning they can’t refi. In CA for example, 60% fit this profile. These homeowners are dead to the mortgage sector. In other bubble states negative equity is worse. Please see my latest report on negative equity. Bubble-States Awash in Negative-Equity (13)

Of the 40% that have a low enough loan-to-value to play ball, many made no mistakes during the bubble years and could be in a 5% to 5.5% 30-year fixed right now. Rates have to go much lower for these people to want to reset a loan with 26-years left to 30-years. Also within the 40%, not all have the LTV under 80% and credit score over 740 that allows them to take advantage of the vanilla base-rates. Remember, in the past year credit guidelines have tightened so much that unless the borrower’s profile is nearly perfect, they do not get the best rates. Please see my recent story on mortgage rates. Mr Mortgage: In-Depth Look at Mortgage Rates…5.5% Does Not Exist For Most (44)

There are significant adjustments that take base mortgage rates much higher which did not exist a couple of years ago for LTV’s, credit scores, loan type, purpose (and more) that are outside of the small vanilla box. During the bubble the box was huge where a 580 and 700 credit score could get the same rate from the GSE’s. Now there would be a rate hit of 1% or more if the borrower could even qualify. Then there are those in exotic Pay Option ARMs and alike that don’t want out regardless of where fixed rate loans go. Remember, index values underlying these loans such as the MTA, CMT, Treasury and LIBOR are falling making these loans attractive. A refi into 5.5% or even 4.5% means a payment increase, which is a tough sell. Additionally, there are the folks who went stated income/asset that can not qualify regardless of how low full doc Agency rates go.

Lastly, If the borrower has a second mortgage, as millions do, that they need to be kept in place the rate can jump at a minimum from 5.5% to 6% making a refi potentially out of the question.

When rates tumbled during the bubble it sparked a nationwide refi-party that was absolutely stimulative to the housing market and overall economy. Now, my research shows that of all the homeowners in the bubble states, less than 20% can actually benefit from rates dropping when you remove the parties outlined above. I naturally focus upon the bubble states because of their massive population and home owner bases and because no national housing market or lending upswing will occur without these states participating. Scratch the refi-boom.

MOVE-UP BUYER

Move-up buyers were the largest segment of buyers during the bubble years, as folks always wanted something bigger, newer or in a better location. Each quarter brought about new and innovative loan programs designed by the investment banks to bring payments and down-payments lower making homes more affordable. With very little down required and housing rising double-digit percentages per year it was easy to sell, pocket the cash above the loan payoff and buy the better home with little to no money down and a lower payment if you chose a Pay Option ARM for example. The new home was furnished on easy credit terms from their favorite furniture chain. EVERYONE qualified due to stated income, no ratio and no doc loans. Now, the move-up buyer virtually non-existent because most can’t sell for what they owe; can’t sell for what is needed to extract the large down payment needed to buy the new home given today’s financing; or can’t qualify for a mortgage on the home they presently live in let alone a larger mortgage without an exotic or liar loan. Scratch the move-up buyer.

FIRST-TIME BUYER

First time home buyers in their early to mid 20’s are a group that can benefit from lower rates. However, historically they were one of the smallest housing market segments. Now the question is, how many 20-something’s have a large down payment, 2-year job history, very little debt and good enough credit score to take advantage of the low base rates available?

This group as a whole will not be able to get the low base-rates being thrown around because they are not seasoned borrowers. An LTV and credit score that was considered ‘Super-Prime’ two years ago can result in a 1.5% hit to the rate bringing them from 5.5% to 7% very quickly.  While the 7% rate may fall further, I believe that this group is more price-sensitive and looking for a ‘great deal’ on a foreclosure-related property vs waiting for rates to drop to buy. This seems to be the case with most buyers given over half of all home sales in the bubble states come from the foreclosure stock.

RENTER

Renters can also benefit from lower rates but the same rules apply as with First Time Buyers. This segment also has historically been one of the weakest, as many are renters for a reason. In many cases those reasons prohibit them from buying.

SECOND HOME/INVESTMENT BUYER

Once again, it is more about getting a ‘great deal’ on a foreclosure related sale vs hitting an interest rate level that prompts a purchase for this group. For those not paying cash, most investors have significant interest rate adjustments on their loan taking the rate up substantially over 5.5%. For investment properties, the 3-point hit for LTV’s above 75% alone takes the 5.5% to 6.75% – most will have multiple hits.  The second/vacation home buyer can get more aggressive rates than investors, but I sure hope that economists are not staking their reputation on vacation home buyers saving the housing market.

Well, there you have it. This is my take on lower rates. While naturally lower rates are good for everyone, there is a fundamental problem with our government spending money to artificially push mortgage rates lower. Remember, it was artificially low rates on exotic loan programs that were one of the reasons we got here in the first place. – Best Mr Mortgage

69 Responses to “Who REALLY Can Benefit From Lower Mortgage Rates?”

  1. SeeTheOcean,

    Right there with you man. Your situation sounds extremely similar to mine. I don’t really see how legal + intelligent = immoral. Making a decision based on what will definately happen (rate reset on an ARM) vs. what may happen (bailout for underwater owners) seems to be the prudent thing to do. Voluntarily keeping yourself in your own debtors prison (your underwater house)is just about the dumbest thing someone can do these days. It’s ironic to call it a debtors prison, as this is what many people who abhor walkers would like to see the US open. I bet it pisses them off that walking away is actually the way to AVOID debtors prison. Kind of funny…

  2. Partyboy,

    Looking back, I made a wrong decision to purchase in 06. I had all the tools, read all the blogs, evidence and knowledge to stay clear. But I was newly married and had pressure from my significant other to purchase and start a family – all good things in life! Now I have have a chance to correct or at least improve on the situation. I feel confident walking away and or a deed in lieu is the right decision. I’m not the super rich so these types of monetary decisions I don’t make on a regular basis – I’m playing at the $5 Black Jack tables as opposed to the $100 tables. I am once again on the path facing a fork in the road. LOL.

  3. i love all these so called “educated” renters who are so smart that they just sit on cash and rent watching the market until the perfect time !!….What a joke , if any one believes that BS, where were you in 1997-2000, should been buying a house then….BOTTOM LINE and dont let anyone tell you differently , LIFE IS ALL ABOUT TIMING, most people who bought ahome in the last 3 years had to buy a home because there was a reason in their life that they had to buy a home at the INFLATED prices that were high because of FRAUD on so many levels….they were stupid or foolish or looking to make a big score and if there is going to pricipal reductions , they need to make them for EVERYONE

  4. they were NOT stupid or foolish

  5. Javagold:
    Chill out. You sound so angry. We can all look back with perfect 20/20 vision and it’s so easy to judge others today. Please don’t.

  6. Honestly, I wasn’t thinking about walking away or a deed in lieu until recently. We would still be fine having bought a home 2.5 years ago. But if Joe Flash is going to have his cake with MY tax money, I might as well have my cake and eat it too.

  7. Seetheocean: You made a deal. You signed a contract. You have the ability to honor it. Now, 2+ years later you think it was a bad deal, yet you like where you live and the lifestyle it allows you. immoral is not necessarily illegal and vice versa and you know it. Lots of bankers did lots of immoral things for the obvious example, but they weren’t illegal. I have no respect for someone who shirks their obligations because they feel like it. It is easier. This is why our country is going down the tubes. In your case the bank is not the bad guy, you are. Realistically by 2013 things will have turned around but you are so concerned with instant gratification that you will walk away. I guess it is cool to ditch your house now. You will probably squat there for 6 months before you move too. What a loser. I would hate to be you or know you.

    I bought our second house (not second home) in late 06. Put 20% down. And yes, I am a saver too. My home cost 2.5x my annual income. My financial situation is pretty similar to yours but I guess I am a grownup about my responsibilities. Even if my home declines 10-20% I will live up to my obligation. I am lucky, new homes in my neighborhood are going for a hair more than I paid.

  8. Slow-Rion,

    You stated: ‘You made a deal. You signed a contract. You have the ability to honor it. Now, 2+ years later you think it was a bad deal, yet you like where you live and the lifestyle it allows you. immoral is not necessarily illegal and vice versa and you know it’

    You cannot be more correct. But my contract also states I can ‘walk away’ and the result is foreclosure. I can also work with the lender and perform a deed in lieu all perfectly within the system. If this were a real estate only issue then maybe just maybe by 2013 the market will turn. But throw in the Financial crisis, the Auto and soon Pet bubble (yes I said Pet Bubble) it is going to take much longer than 5 years to recover. Homeowners like you are not immune (and I’m not saying that you said you are immune) and before long those with 10 year fixed or even traditional 30 yr notes are going to walk. Do you really thing the Fed is in in to save the homeowner? What they are doing is criminal and same with those financial institutions, mortgage and Realtors that were ‘just playing within the rules’. If someone hits you in the face, are you going to hit them back or just let them keep punching you? That said, I admire you for your stance, but at the end of the day, this is a purely business decision. I am grown up and my responsibility is to my family. The theater is on fire, I’m going to save my family first.

  9. Loan Mod Chick, think u need to reread my post , i am not pro 20/20 hindsight, i am saying , i dont believe those people, you need to read before you post or you sound stupid for calling happy people angry
    I see the Ocean, dont listen to anyone such as Slow-rion, slow is a good name for him, as he is just a bit slow, to understanding what has happened over the 3 years in this country….all bets are off and the rules have changed (actually they seem to chage every week)…you do what you think is best for you and your family and sleep good at night doing so, i think you most likely bought a home with good intenetions, as i did, and thru no fault of your own, have been screwed by the banks, brokers, investors and our government…..if slow rion is a little slow in understanding that, hopefully by reading the posts here we can help him get up to speed and REALIZE WHEN THINGS FINALLY CRASH (AND THEY WILL) IT WILL MOST LIKELY BE EVERY MAN FOR HIMSELF…..its better to be ahead of taht curve as much as possible…good luck

  10. Javagold said: “I see the Ocean, dont listen to anyone such as Slow-rion, slow is a good name for him, as he is just a bit slow”

    Javagold, I am just saying this(I thought)is a format for opinions ,not harsh judgements. You don’t know me, how can you call me stupid?
    We all see things with opposite views, but isn’t it so interesting to read others opinions without FORCING our own thoughts on others? My God, arent things difficult enough right now, in this perfect storm of events?

  11. load mod chick,
    Slow rion, called Ocean a loser, that is is you should be calling out for harsh posting , not me, you dont even understand what i even posted, and say we have opposite views, when i believe WE HAVE THE SAME, thats why i said you sound stupid…..but either way stop being so thin skinned, its a MB on the internet , who cares what anyone says …

  12. Javagold:
    There you go again, with the name calling!
    Now, you say I am not only stupid, but thin skinned.
    OMG,you must be either very young, or an old control freak.
    Try posting your comments without the name calling.
    I haven’t ever seen MM comment that people are stupid, thin skinned, or slow, or………and I am pretty sure some of our comments must make him crazy!
    What demeaning name is next? Bring it.
    You can certainly make your point, without name calling can’t you?

  13. kashmula is right, the FHA-Hope has kept a ton of people out of foreclosure. Mr.M. conveniently leaves out an important fact, the lower interest rate will bring in a bunch of new buyers which in turn will drive up the prices. YES, prices will start to go up within a few months after rates drop below 5%. Keep your day job Mr.M because those of us still in the business are doing much better these days.

  14. Kind of like more homes are selling so prices are higher?

    FHA-Hope only prolongs the inevitable.

  15. AC, I think what you meant to say was that FHA / Hope have delayed a ton of people from entering foreclosure. That and all the new programs from various states not allowing foreclosures to take place. It is all a shell game with the tax payer holding the bag. January brings changes to the conforming loan amounts back to where they were and fewer and fewer will qualify for FHA loans as we move foward. This is all a false blip that will turn right back around. You can delay the inevitable but you can’t make it go away, and that is all that is happening here.

    Mr. M. as usual a great post right on target. This will do very little if anything to turn things around. The problem is tied more to the people who can afford to buy and the people we need to be buyers right now to turn things around, simply don’t want to buy right now. As you point out the speculators, renters and first timers are not nearly enough to get things turned around and in fact they may actualy do the opposite if things get a lot worse because they are the buyers that would be least able too handle a continued downturn once in their homes. They could actually end up helping to prolong the problem down the road.

  16. AC, I think what you meant to say was that FHA / Hope have delayed a ton of people from entering foreclosure. That and all the new programs from various states not allowing foreclosures to take place. It is all a shell game with the tax payer holding the bag. January brings changes to the conforming loan amounts back to where they were and fewer and fewer will qualify for FHA loans as we move foward. This is all a false blip that will turn right back around. You can delay the inevitable but you can’t make it go away, and that is all that is happening here.

    Mr. M. as usual a great post right on target. This will do very little if anything to turn things around. The problem is tied more to the people who can afford to buy and the people we need to be buyers right now to turn things around, simply don’t want to buy right now. As you point out the speculators, renters and first timers are not nearly enough to get things turned around and in fact they may actualy do the opposite if things get a lot worse because they are the buyers that would be least able too handle a continued downturn once in their homes. They could actually end up helping to prolong the problem down the road.

  17. Prices will not go up in the next few months or years.

    Purchasers are and SHOULD be looking for the best possible price to purchase a home, which are the REO”S.

    The majority of the sales in the market today are from REO’S since they can and do under-sell the other homeowners in the same area.

    Everyone loves a bargain.
    Every closed sale becomes a comparable creating a value for the area.

    As a buyer waiting on the side line, why would you purchase a similiar type home in the same vicinity for 20-30-40% more than the REO? You wouldn’t and the deflationary cycle continues.

  18. Actually the Hope for Homeowners program only had 111 applications, so far.

  19. Susan, that was a really nice post you did on Anaheim home prices and incomes. Clearly it showed that the buyers were entering into contracts they could not afford. Which brings about the question: Do you bail out speculators?

    Here are two maps from the fed. This one looks like home ownership rates in CA will drop below 1990 levels by the time it is over.

    http://research.stlouisfed.org/fred2/series/CAHOWN?rid=144

    This will leave CA with the lowest home ownership in the nation.

    http://geofred.stlouisfed.org/?l%5B%5D=state,state_lbl&sa=Not Applicable, Annual, Percent&cm=equal&ex=-139.701727,24.811483,-71.726477,49.94623&nob=5&cs=ylorbr&geom=state&st=Home Ownership Rate&dtn=Percent&dt=2007&fq=Annual&

    In order for ownership rates to align with the rest of the nation, prices will have to fall to the level of affordability. That means incomes will have to match housing prices without hocus pocus finance.

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