Taking Off the Training Wheels

Pedaling Toward Independence from Government

If the mortgage industry were a kid on a bicycle, it just got its training wheels taken off. Although the Federal Government is our dad that is still holding on to the back of the bike, running along as the kid pedals down the sidewalk.

Turn the clock back a few years, and the mortgage industry was riding a unicycle... while juggling chainsaws... blind-folded... and drunk. Well, there was a terrible accident. Now the mortgage industry has to learn to ride again.

The training wheels came in the form of increased government intervention. The Federal Reserve purchased the bulk of mortgage backed securities for a full year. This pushed interest rates lower and help more people afford new mortgage payments. That program ended on March 31. Without the Fed buying up all of those mortgages, rates rose a bit. They are up from the all time lows, but they are still very attractive.

In addition, the home-buyer tax credit is going away. To be eligible, buyers must have an executed purchase contract by April 30, and close by June 30. This was a way for the government to stimulate the housing market. It was successful in encouraging people to buy homes. Going forward people will buy homes if they need them, not for a tax credit, and it is important that the market show it can survive without the extra government support.

But the mortgage industry still has a lot of government support. Dad is still holding on to the back of the bike, running by its side. The only mortgages that are being securitized and sold in the secondary market have some sort of government backing. Fannie Mae, Freddie Mac, FHA, and VA compose almost all of the market. Private label mortgage -backed securities haven't been issued for over two years. However, there are reports that they may be making a come-back. These private-label mortgage-backed securities would be primarily for jumbo loans. Jumbo loans today are primarily being held in banks' loan portfolios.

Re-emergence of securitation of non-government backed mortgages would be another big step for the mortgage industry to ride the bike again, without dad holding on. The true test will be seen with the reform of Fannie Mae and Freddie Mac. That may be a long and painful process. The industry isn't there yet, but at least the training wheels are off.

You Have a Foreclosure or Short Sale.... When Can You Buy a Home Again?

A common tale...

Alex and Christina purchased a home in Phoenix back in May of 2006 for $725,000. Last year they requested a loan modification from their lender to whom they owed slightly over $680,000 (in a first & second mortgage). Their request for a modification was denied by the lender. Around the same time, a home similar to theirs on the same block sold for $410,000. Uh oh!

So Alex and Christina listed their home with a real estate agent to do a short sale. They had some offers, but the lender did not approve any of them. You see, since the lender is accepting less than what they are owed in a short sale, they must approved the offer. Alex and Christina became frustrated witht the process and walked away. The home was eventually foreclosed by the lender and sold for $374,000.

Prior to this event, Alex and Christina had perfect credit. Their scores were in the high 700 range. Today they are probably in the low 500's. Question: When can Alex and Christina qualify for a home loan again?

Their scores will rise as time passes and they continue to have other good credit. To qualify for an FHA loan with most lenders, they scores will have to rise to at least 620. In addition there are rules about how much time must pass after a foreclosure, deed in lieu of foreclosure, and short sale. There are different guidelines that lenders follow depending on whether the event was due to extenuating circumstances (e.g. income loss, illness, or death in family), or financial mismanagement (most everything else).

Foreclosure

Foreclosures occur when the homeowner defaults and the lender reposses the property. This is the case in the example above with Alex and Christina. Their foreclosure was not a result of extenuating circumstances; like many others they got in over their heads. Therefore they will have to wait 5 years before they can qualify for another home loan with most conventional lenders. If the foreclosure had been the result of extenuating circumstances, then their wait time is reduced to 3 years.

Deed in Lieu of Foreclosure

A deed in lieu of foreclosure is when the homeowner accepts the fact that they will lose the home and willingly grants the property to the lender without having to go through the foreclosure process. The foreclosure process can be expensive and time consumer for lenders, especially in judicial foreclosure states. If Alex and Christina had done a deed in lieu of foreclosure, then they would have to wait 4 years before qualifying for a mortgage again. If the event was due to extenuating circumstances, that time is reduced to 2 years.

Short Sale

How long would it be if Alex and Christina had followed through with the short sale? Well, that appears to have the shortest "period of waiting." Regardless of the reason for the short sale, in only 2 years they could potentially qualify for a home loan again. That sounds much better than the 5 year wait they will have after their foreclosure.

So if someone is facing a foreclosure or short sale, and they want to buy a home again as soon as possible, then a short sale may be advantageous. If you or someone you know may be interested in more information about a short sale, go to http://emodifymyloan.com/shortsaledetails/.

Homes for Sale in Arizona

Wake Up Home Buyers!

"It's now or never...," Elvis Presley sang. That line also applies to purchasing a home. At risk of sounding like a cheesy salesman, I can honestly say that it has never been a better time to purchase a new home.

Okay, that probably did sound cheesy. I make fun of car commercials that consistently tell us that "Now is the best time to buy a -insert car brand here-!" In fact, even real estate professionals were saying a few years ago, at the peak of the market, that it was the best time to buy. For a moment forget the cheesiness, and past mistakes of real estate & mortgage professionals. I will make my case as to why potential homebuyers are foolish (yes I said "foolish") not to purchase a home now.

I must give credit to Barry Habib, Chairman of Mortgage Success Source, whom I had the opportunity to spend some time with this week when he made a trip to Phoenix. He made this case by telling the story through the eyes of Rip Van Winkle. I took his idea and made some changes of my own.

The classic Washington Irving story of Rip Van Winkle starts before the American Revolution in a village in colonial New York. Forgoing the details, Rip falls asleep for 20 years and awakens after the Revolution. For our purposes we will revise the story a bit. Before he fell asleep Rip put some money away for a down payment on a house. And instead of colonial New York, our story takes place in suburban Phoenix.

Rip Van Winkle wakes up today after a multi-decade slumber. He takes his money that he had set aside before his prolonged nap and immediately begins shopping for a home. He does some research and discovers that home prices have dropped around 50% in four years. He is astonished. "You mean that if I woke up just four years ago, I would be paying double for a house?" he asked his Realtor. "I can't believe how lucky I am."

Rip researched further and realized that he could get an $8,000 federal tax credit if he has a contract prior to April 30 and closes by June 30. "Unbelievable!" Rip exclaims. "If I had slept in for just a few more months, I would have missed out on this opportunity. Thank goodness I woke up when I did. This seems to good to be true!" Then he thought for a moment.

"There has to be a catch," he thought to himself. "Interest rates must be high. They are probably going to stick it to me on my home loan." So he asked his loan officer about it, and he was again astonished to learn that rates were near historic loans. " Do you mean to tell me that along with a 50% discount from home prices four years ago, and an $8,000 tax credit, I can get an interest rate on a 30 year fixed mortgage that is within .25% of all-time lows? I can't believe how lucky I am to have woken up when I did!"

Rip was indeed lucky to wake up at the right time in history. Don't miss your opportunity.

OMG! - The Fed Raised the Discount Rate

Last week the Federal Reserve raised the Discount Rate by .25% to .75%. "OMG!" was the response by the markets on Thursday. We also saw mortgage rates rise last week. What did the Fed really do, and what does it mean to you?

Discount Rate, Fed Funds Rate & Their Purpose
The Federal Reserve (Fed for short) controls two interest rates: the Fed Funds Rate; and the Discount Rate. Both are short term interest rates used by the Fed to make monetary policy. It is important to know the difference between the two rates. The Fed Funds Rate is the rate that banks charge each other to borrow funds overnight. The Discount Rate is the cost to banks to borrow funds directly from the Federal Reserve.

The Fed prefers the banks to lend to each other (via the Fed Funds Rate) so that it does not have to lend directly to banks. Therefore historically, the Discount Rate has been a full percentage point higher than the Fed Funds Rate, so that the Fed was the lender of last resort to banks. However, that practice changed in August of 2007 when credit markets began to show signs of weakness and the Fed wanted banks to be able to borrow from the Fed if necessary. At that time the Discount rate was lowered by .5% without changing the Fed Funds. Subsequent rate decreases followed as the recession began and the credit freeze took hold.

What They Did & Why
So the Fed raised the interest rate tied to funds that it lends to banks from .5% to .75%, why? In a statement the Fed gave their reason as, "to encourage depository institutions to rely on private funding markets for short term credit." In other words, lend to each other so that we (the Fed) don't have to.

That seems fairly benign. Only $15 billion is currently being borrowed from the Fed. So why were the markets startled at first? Some are concerned that this is the first step in a new climate of tighter monetary policy, better known as higher interest rates.

Atlanta Fed President Lockhart seemed very clear on Thursday when he said that people "should not interpret this action as a tightening of monetary policy or even a sign that a tightening is imminent."

I believe him. Our economy is still much to week to begin tightening credit. Credit is already too tight. Rather this move seems to only to attempt to get closer to the 1% spread between the Discount Rate and the Fed Funds Rate that existed prior to August 2007.

What Does the Discount Rate Matter to You?
Unless you are a bank that borrows money from the Fed, then this probably won't impact you at all. The Fed will keep short term rates low (via the Fed Funds Rate) until the economy shows signs of improvement.

The larger concern for mortgage rates rests in the Feds Mortgage Bank Security purchase program (see January 9 post) which is slated to end next month. Expect to see rates bump up unless the program is extended.

FHA Rule Change Helps First Time Home Buyers

The majority of the home sales in depressed real estate markets like Phoenix, Southern California, Las Vegas, & Florida are lender owned properties. The deluge of foreclosures in those markets has greatly increased the number of home sales as lenders take ownership, and then sell those homes. That increase in sales is good news for those of us whose livelihood depends on homes being bought and sold. But let's look at who is buying those foreclosures. A great number are investors.

Investors Role Important
I have been critical of the large number of home sales in our markets where the new owner is an investor. My argument is that true stability in the housing market can only come from homeowners who intend to occupy the properties. Investors that intend to flip properties only contribute to a bubble that will eventually pop after being over-inflated. However, even I must admit that investors play an important role in rebuilding our market.

That role involves the remodeling and even rebuilding of homes. Unfortunately many of the homes that lenders foreclose are in terrible shape. Prior owners often strip homes of appliances, fixtures, counters, cabinets, wiring, plumbing, and anything else that seems valuable. Homes are even damaged out of spite as angry occupants move out.

The average prospective home buyer cannot afford to make the repairs needed to make the home habitable. First time home buyers are typically scraping together savings to afford a minimum down payment. Investors have the funds to pay cash for the properties and make the necessary repairs. After the investor's work is through, the home is in move-in ready condition. They list the property and sell it to a willing buyer.

90 Day Seller Seasoning
Most home purchases today are financed with an FHA insured mortgage. However FHA rules require a seller to own the property for at least 90 days before a buyer can use an FHA to finance the purchase. Most of the time, the investor can make the necessary repairs to a home in a few weeks. So they were required to hold the property, unoccupied for an extra couple of months before they could sell to an FHA buyer.

On Friday FHA announced a temporary waiver of the 90 day rule. Investors, and any seller for that matter, can now sell the property immediately. There are some restrictions.

• The waiver begins February 1, and lasts for one year.
  
• Sales must be arm's-length transactions.
• Restrictions apply to sales that increase by 20% or more.
  

More information can be found in HUD's press release.

This is good news for markets that need lender owned properties to turn over. It will motivate more investors to purchase and repair distressed properties, and get them into the hands of homeowners that will live in these homes.

Are Higher Rates on the Horizon?

"What goes up must come down...," the song goes. In the world of interest rates gravity works both ways, and so the reverse "What goes down must come up..." also applies.

Federal Reserve MBS Purchases

There is some concern that 2010 will mark higher rates than in 2009. That shouldn't be a surprise. The Federal Reserve kept rates down last year to try and stabilize the economy. Not only has the Fed Funds (short term) rate been at near zero, the Federal Reserve helped to keep mortgage rates low with a massive spending spree for mortgage backed securities. The fact that it is a "spree" implies it cannot last forever, and it won't.

The Fed now holds $909 billion in mortgage backed securities. It sounds like a big number, and it is. Last year, the Fed and Treasury combined to purchase 73% of all Fannie Mae, Freddie Mac, and Ginnie Mae mortgage backed securities. The Fed's spending spree, when completed in March will result in $1.25 trillion in MBS purchases. Unless you are a politician, $1.25 trillion is a lot of money.

Effect on Interest Rates

Those purchases had a big impact on mortgage rates, and therefore on housing affordability. Home prices are based on what potential buyers are willing to pay, and what they can afford. Rising rates will result in higher monthly payments on new mortgages. That means for someone to be able to afford the same payment with a higher rate, the loan amount (and the sales price) must go down. The bottom line, higher rates equals further declines in home values. Further declines in home values equals more foreclosures. Therefore higher interest rates equals more foreclosures. Here are the equations for any math nerds that are reading this.

Higher Rates = Lower Home Values;
Lower Home Values = More Foreclosures;
Higher Rates = More Foreclosures.

With continued falling home values, and rising foreclosures, will the Fed really stop the MBS purchase program. They recently warned banks to be prepared for "instantaneous and significant changes in rates, substantial changes in rates over times, changes in the relationships between key market rates (mortgages versus Treasuries?) and changes in the slope and shape of the yield curve."

Prediction or Regulation?

Was that a warning from the Fed as to what is to come? Or are they just trying to be a better regulator since they did an obscenely poor job leading up to the recession? What about the President and Congress; will they let allow rising rates to beat down an already bloody housing market? Reeling from worse than expected unemployment numbers for December, there is political pressure to continue to stimulate the housing market.

Knowing that the Fed is ending its MBS purchase program in March, the Treasury's announcement of "unlimited support" for Fannie Mae and Freddie Mac makes sense. Perhaps they will pick up where the Fed is leaving off in the purchase of mortgage backed securities. If not, the absence of such a large buyer will drive up mortgage rates as yields must be bid up to attract new investors.

The Bottom Line

There is great pressure on the government to continue stimulating housing. One way or another they should keeps rates low (continue Fed MBS purchase plan, or use Fannie & Freddie). We are still in the midst of a housing crisis, so it is undesirable to intentionally trigger another one. Eventionally the housing market must be weaned off the stimulants, but this market is not yet ready for that.