Do Declines in Foreclosures Necessarily Show An Improving Housing Market?

The number of foreclosures have continued to decrease year over year. Should this be taken as another sign of improvement in the housing market? The recent shift by many banks towards short sales and other strategies designed to avoid the foreclosure process make analyzing the data difficult.

In April 2012 five of the largest lenders in the country reached a court settlement with the attorney generals of 49 states and the District of Columbia.  The agreement concluded the lawsuit brought by the attorney generals against those banks – Bank of America, Wells Fargo, JPMorgan Chase, Citigroup and Ally Financial- who had been accused of various illegalities and abuses regarding the way they handled the foreclosure process of homes whose mortgages they held. The settlement totaled $25 billion, and under the terms of the deal at least $17 billion of that total would be committed towards modifying mortgages for delinquent borrowers, including principal reductions for some of the roughly 1 million homeowners currently underwater on their mortgages.[1]

To date nearly $10.6 billion in mortgage relief has made its way to homeowners, according to the Office of Mortgage Settlement Oversight.  Per the stipulations of the settlement, at least 60% of the borrower relief was to be spent on principal reductions; thus far less 10% of the money has been allocated to that end.  Virtually all of the remaining money, more than 85%, has gone towards pre-foreclosure short sales, a practice whose employment is growing rapidly amongst housing lenders.  A short sale involves the bank agreeing to accept less than the full mortgage balance when the home is sold.  By focusing on short sales, banks skip the arduous foreclosure process and they no longer have to manage, maintain and market homes upon the conclusion of that process.  When the court settlement in April was reached there was hope that it would lead to more lenders approving the modification of loans and write downs of principal in order to assist homeowners struggling to pay their mortgages.  Instead it appears that homeowners are simply losing their homes in another fashion, one that does not impact foreclosure statistics, since no foreclosure takes place.[2] 

This new trend in the housing market makes it difficult to analyze the lower foreclosure totals showing up in various industry surveys over the past few months.  In August, 99,405 homes entered the foreclosure process, down 13% from August of the previous year, and down dramatically from the foreclosure peak of April 2009, which recorded an astounding 203,000 foreclosure filings. Still, the latest foreclosure figures remain far in excess of the monthly totals seen prior to the housing bubble’s collapse, as the 34,000 foreclosure filings of May 2005 attests.  Short of another severe economic shock, experts expect this trend to continue, with several citing the dramatic drop in foreclosure starts, the initiation of foreclosure proceedings, down 19% last month from the previous August, to a total of 52,380.  With the country on pace to have 678,000 foreclosures by the end of the year, a noteworthy decrease from the 800,000 foreclosures of last year can be reasonably expected.[3] Additional good news includes a reduction in the number of homeowners underwater, from 11.4 million at the end of the first quarter of this year to 10.8 million at the end of the second quarter, with this improvement being attributed primarily to the ongoing stabilization of housing prices.[4]  Still, there is cause for concern given the banks ongoing intransigence as they seem more interested in adhering to the letter of the deal than to the spirit.  It remains an open question whether the drop in foreclosures is truly reflective of an improving housing market, or whether people are simply losing their homes in ways not reflected in the data of the various industry surveys most market watchers use. 

This concern has led to some to call for a more sweeping approach to solving the housing crisis.  Austin Goolsbee, a former top Obama Administration official who held the chairmanship of the Council of Economic Advisors, says, “I think there's a lot wrong in the housing market” and recommends a broad expansion of an existing program to rent out the homes foreclosed upon by Fannie Mae and Freddie Mac that are currently owned by the government.  Instead of these houses sitting empty, they could become rental properties thus reducing the supply of homes for sale on the market, a development that could only help what appears to be the glimmerings of a housing market recovery.[5]  It is worth noting that houses with mortgages held by Fannie Mae and Freddie Mac were not included in the court settlement of last April, knowledge that would seem indicative of the need for the implementation of solutions to address the issue particularly given the fact that various government related entities, such as Fannie Mae and Freddie Mac, currently have about 200,000 homes in their possession.[6]

Despite the uncertainty as to whether the marked drop in foreclosures can be cited as an indication of an improving housing market or not, there are a number of other clear indications that the market is slowly on the way towards recovery.  Home prices have increased year over year across the country and in virtually every major metro area, per the S&P Case Shiller Indexes.[7]  Sales volumes have increased and home inventory levels have hit record lows, all of which can only be viewed as encouraging.[8] The housing market is on the way up, but there remain hardships to endure.  A more clear indication on the part of the banks that they wish to be part of the solution, and not part of the problem, would do much to help dispel the greatest impediment to a return to a healthy housing market; the lack of confidence on the part of the average citizen in the institutions that comprise that market. 

Check mortgage rates where you live.

What Will Mortgage Refinancing Levels Be After QE3?

Interest rate levels have once again hit historic lows. Will this lead to another sustained surge in home mortgage refinances? Regrettably, given the numerous obstacles that must be navigated by borrowers, such an event is unlikely.

With the implementation of round three of quantitative easing official, interest rates have once again dropped to record lows, hitting 3.72% on the 30 year fixed in mid September 2012, the lowest rate in the 30 year history of the Mortgage Bankers Association survey.   Even prior to the announcement of QE III by the Fed the pace of home construction had increased in August, perhaps in anticipation of the policy initiative and an associated increase in home buyer interest.  Applications for refinances continued to outpace those for new home loans, however, with the former comprising 81% of all mortgage applications.   As QE III gains momentum, can we expect a return to the boom refinancing levels of recent years?  Not so fast.

There are a number of impediments that borrowers will have to overcome in order to refinance their home and it is unlikely that we will see a return to the volume of refinances seen in the early days of the Great Recession, despite efforts by both the Federal Reserve and the Obama administration to lower rates and widen access to the resultant cheaper loans.  Included amongst the obstacles facing both borrowers individually and the housing market as a whole, are the following:

  • Existent lenders are severely understaffed and overwhelmed by the paperwork associated with processing mortgage refinances.
  • There is less competition in the industry as hundred of lenders failed between 2006 and 2008, while others that survived either reduced their industry presence or exited the home lending business altogether.  This has reduced industry capacity to deal with prospective borrowers.
  • Home prices have fallen 34% since July 2006 per the S&P Case Shiller Metro Index.  This has led to homeowners having less equity in their homes and in many cases being underwater, i.e. having no equity at all as the balance they owe on their mortgage is a greater amount than what the home’s value is.  Homeowners without equity cannot qualify for a refinance, regardless of interest rate levels. 
  • Borrower fatigue induced by years of record low interest rates.  Many of those borrowers able to qualify for these rates have already refinanced, some multiple times.  There simply isn’t much depth in the pool of potential borrowers.
  • Buyback claims, which is when lenders are contractually obligated to repurchase loans if they are based on faulty appraisals, false data about borrowers or paperwork mistakes,   have spiked in recent months, surging up $6 billion to $22.7 billion in the 2nd quarter of 2012.  This has led an already bruised industry to become even more cautious and paperwork dependent.   “With that hanging over their heads, they’re really, really defensive,” said Terry Wakefield, a mortgage industry consultant in Mequon, Wisconsin, who helped start a home lending unit for a Prudential Financial Inc. predecessor. “Lenders just keep asking for more and more and more documentation, not because they think it has any value but because they think it will help them if there’s a buyback demand.”  Banks keep raising the bar for what’s required of borrowers during the refinancing process, straining even further the industry’s capacity for processing the associated paperwork.
  • Origination and title fees have spiked due to the elongated process, with the average costs of a $200,000 loan rising from $3,118 in 2008 to $4,070 in 2012.[1] 
  • There is a growing delay in banks passing on interest rate cuts to consumers as the lowest rates in history could be even lower as lenders continue to take advantage of the spread between the rates they pay to borrow money and that which they charge their customers.  Banks earn money from mortgages from lending at one rate, then bundling the loans together to sell them as mortgage backed securities (MBS) that pay interest at a lower rate.  Historically that spread has been around 0.75%, but it has nearly doubled to over 1.4% in the past twelve months.  If the spread had remained constant a 30 year fixed mortgage rate could be as low as 2.8%.[2]
  • The historically low rates are the result of continued concern regarding the economy, both global and domestic.  QE III is the Federal Reserve’s answer to these concerns.  By aggressively entering the Treasury securities market and purchasing $40 billion of such securities per month, rates are being driven down.  Investors seeking safe haven for their money are also snapping up U.S. Treasuries, pushing rates down even further.  Given the uncertainty surrounding Europe’s sovereign debt crisis, China’s economic slowdown and the impending Fiscal Cliff here in the United States, these trends are likely to continue making the government and banks even more reluctant to loosen tighter lending restrictions and lenders even more desirous of additional paperwork to protect themselves, with the latter resulting in an already difficult refinance process becoming even more onerous for all concerned.

QE III and the continued flight of worried investors to the Treasury market will keep rates low and in the short term should lead to a surge in refinance applications.  This is unlikely to last, however, due to the reasons listed above.  Those expecting a sustained flood of refinances will be disappointed.  That said, the housing market as a whole will benefit from what is almost certainly going to be years of low interest rates.  A nascent housing recovery is already underway, one that is broad based, but fragile.  The near guarantee of the continuance of low mortgage rates will address that fragility, broaden the pool of potential buyers, and provide the necessary fuel for that recovery to continue.

Are you looking to refinance?  Check rates where you live.

Could a Huge Drop in Underwater Mortgages Jumpstart the Economy?

With more than 10 million American homeowners who are underwater on their mortgages, will the United States economy ever be able to recover?

It would be difficult to argue that the housing market is not one of the major drains on the United States economy and a huge hindrance to its growth. In fact, some would say that the housing market is the number one reason why the economy ended up in the situation that it is in and why we haven’t recovered financially as a nation yet.

Possibly the largest problem with today’s housing market is the number of underwater homes that exist. When a homeowner is “underwater,” it means that they owe more money on their home than what it is actually worth. Today, there are nearly 11 million homeowners in the United States who find themselves in this precarious position. But why do underwater mortgages create such a problem for the housing market?

For one thing, homeowners who owe more on their home than its fair market value are more likely to have their homes foreclosed. Foreclosures are a close tie with underwater mortgages when discussing the main problems with the current housing market. Another problem with underwater mortgages is that the homeowners cannot sell the home without a huge financial penalty. If they owe more than the home is currently worth, they can sell the home for whatever price they can get, but they will still be responsible for the difference between the sale of the home and the amount that is actually owed on the house.

According to an article in the Washington Post, almost 50 percent of the homeowners under the age of 40 currently owe more on their home than what it is worth. This limits their ability to relocate to other areas where jobs are better or to downsize from their current home into something that is smaller and more affordable. 

The federal government has been working overtime in trying to find viable solutions for this problem. Without a significant change in the situation, the economy is simply going to remain about the same as it is right now. One of the solutions that the Federal Reserve has come up with is to buy up to $40 billion of mortgage-backed securities in the upcoming months to help reduce lending rates. The strategy behind this is that many homeowners will refinance their homes at lower rates and this will give them more money to spend which, in turn, helps stimulate the economy.

Unfortunately, underwater homeowners do not usually have this option. It’s difficult, if not impossible, to get a refinance loan on a home for an amount that’s more than what it’s currently worth.

There seems to be some good news, though. The Washington Post reports that more than one million Americans achieved “positive equity” in the last year. That means that they are no longer underwater on their homes and they actually have equity. As a result, they have a better chance of being approved for a refinance mortgage. If many of them start refinancing, they will have extra money to spend each month because they can likely lower their monthly mortgage payments. That still leaves about 10 million American homeowners underwater, which accounts for about 22 percent of all homeowners in the nation. That’s more than four times the rate of underwater mortgages in a healthy housing market.

Until the rate of “negative equity” shrinks, there probably won’t be a huge surge in the American economy coming from the housing market. This is just the beginning of what appears to be a slow process.

Have you considered remortgaging now that rates are at historic lows?  Check the rates where you live.