Low-Rate ARMs and How long will it last?

Posted on Friday, March 5, 2010, 12:00AM

by Jack M. Guttentag

Many mortgage borrowers with adjustable rate mortgages (ARMs) on which the rate has adjusted within recent years are enjoying extremely low interest rates. This reflects the unusually low levels of the rate indexes used by most ARMs. But these low rates are accompanied by high anxiety because of widespread expectations that rates will rise.

For example, the Treasury one-year constant maturity series, which is a widely used index, averaged .35 percent in January. This means that the rate on an ARM with a 2.25 percent margin that uses this index and adjusted in January is now 2.60 percent. Switching to a fixed-rate mortgage (FRM) in today's market, even if the borrower commands the best terms, will about double the rate. ARM borrowers don't want to double their rate before they have to, but neither do they want to be caught flat-footed by a rate increase that materializes before they can make a move.

The stakes are high. The borrower with the 2.60 percent ARM who was paying 4 percent initially probably has a maximum rate of about 10 percent and a rate adjustment cap of 2 percent. That means that if the one-year Treasury rate jumped overnight to 10 percent and stayed there, the ARM rate would adjust to 4.60 percent at the next adjustment, 6.60 percent one year later, 8.60 percent the year after that, and it would top out at 10 percent one year later. Since the FRM rate would escalate with the Treasury rate, the opportunity for a profitable refinance would be lost.

Of course, rates never jump 10 percent overnight; the process occurs over a period of time, which creates a temptation for ARM borrowers to wait until the rate-increase process starts before making a move. That is easier said than done because the market can move very fast. In January 1977, the one-year Treasury rate was 5.29 percent. One year later, it hit 7.28 percent, one year after that it was 10.41 percent, and in March 1980 it reached 15.82 percent. That was an unusual episode, but we are now living in unusual times. Indeed, the rise in rates this time could be even faster.

There is no one ideal way for ARM borrowers to deal with this problem; it depends on their individual circumstances:

Early Movers: ARM borrowers who intend to sell their house within, say, the next 18 months, have little to gain by refinancing, because portable mortgages that can be transferred to the next house are no longer available. Such borrowers have a lot to lose if rates escalate before they buy their next house, but refinancing their current mortgage will not help with that problem. Moving the sale/purchase dates up could be a prudent move.

Shaky Capacity to Absorb Payment Increases: ARM borrowers who anticipate that they could not afford the payment if their ARM rate ratcheted up to the maximum over several years should consider refinancing into an FRM right away. The savings from the low ARM rate may not justify the risk of getting caught by a rate escalation that results in the loss of their home.

Limited Capacity to Monitor the Market: ARM borrowers who don't know how to monitor the market, and don't want to invest the time required to learn how and then to do it, should refinance now. Otherwise, they are very likely to be caught by a rate escalation.

Borrowers whose idea of watchful-waiting is to see what happens to their own ARM rate fall into this category. The rate on most ARMs adjusts annually after the initial rate period ends, which means that the ARM rate can lag the market by up to 11 months. ARMs that adjust the rate monthly use rate indexes that are themselves lagged indicators, such as the cost of funds index.

Alert Rate Monitors: These ARM borrowers are prepared to monitor the market and can take the risk of being caught. To minimize that risk, I advise adopting an operational rule, such as this one: "As soon as the [monthly value] of the [Treasury one-year rate series] reaches [2.5 percent], I will refinance into an FRM." The first bracketed term might be weekly, the second might be a different rate series, and the third might be a different target rate. I would expect the target rate to be higher for a borrower with an ARM rate 2 percent to 3 percent below the current FRM rate than for one with an ARM rate only 1 percent to 1.5 percent lower.

The rate series used should be one of the open market series that are available daily and weekly as well as monthly. These include the Treasury and Libor rate series, which are used as indexes on many ARMs that adjust annually. Avoid COFI, CODI, COSI, and MTA, all of which lag the market. You can find the open market series at www.mortgage-x.com and www.federalreserve.gov/releases/H15/update/.

Alert market monitors should also be alert refinancers. You can't refinance in a day, or even a week, but you can minimize the time required by developing your refinance strategy beforehand. This means selecting one or several loan providers whom you will contact as soon as you have decided to refinance.

Rising U.S. mortgage rates sap loan applications

On Wednesday June 10, 2009, 7:11 am EDT

By Lynn Adler
NEW YORK (Reuters) - A spike in U.S. mortgage rates drove down total home loan applications last week as demand for refinancing shriveled to the lowest level since November, the Mortgage Bankers Association said on Wednesday.
Borrowing costs have soared as bond yields have risen, even as the Federal Reserve has sopped up hundreds of billions of dollars in bonds to keep rates low and stimulate the housing market.
The average 30-year fixed mortgage rate jumped 0.32 percentage point in the June 5 week to 5.57 percent. That was nearly a full point above the record low rate of 4.61 percent in March, the trade group said.
The vast majority of mortgage activity this year has been from homeowners cutting costs with new loans at rock-bottom rates.
The Mortgage Bankers Association's seasonally adjusted index of total applications dropped 7.2 percent to a four-month low of 611.0 in the latest week.
The refinancing index slumped 11.8 percent to a nearly seven-month low of 2,605.7 last week, and refinancing accounted for about 59 percent of all applications, the lowest share since November. As recently as April, refinancings accounted for almost 80 percent of all home loan applications.
Purchasers have been slower to act in the current housing market, with some waiting in hopes that prices will fall further and others paralyzed by unemployment or wage cuts.
Demand for loans to buy homes was little changed last week, rising 1.1 percent to 270.7, having basically been stuck in neutral throughout the important spring sales season.
"I'm not optimistic for 2009 or 2010," Mark Goldman, real estate lecturer at San Diego State University and mortgage broker, said on Tuesday.
The swift percentage point rise in mortgage rates cuts the purchasing power of a borrower by about 10 percent, he estimated.
"Employment is still bad, wages are still low, interest rates are up. That's going to hurt the housing market," said Goldman.
The number of U.S. jobs cut in May was the lowest level since September, but the unemployment rate rose to 9.4 percent, the highest since July 1983.
First-time buyers taking advantage of new tax credits and investors snapping up foreclosed properties at distressed levels have in recent months buttressed the hardest-hit housing market since the Great Depression.
But borrowers will foreclose in record numbers at least for another year, several industry sources, including the Mortgage Bankers Association, predict. Those homes will add to the already large supply of unsold properties and will keep pressuring prices.
Home prices on a national level have tumbled more than 32 percent from the peak three years ago, according to Standard & Poor's/Case-Shiller indexes.
"Prices continue to erode on a national level, and with the rest of the economy not doing well either and the jobless rate constantly increasing, we don't see a recovery in housing on a national level coming soon," Kevin Marshall, president of Clear Capital, based in Truckee, California, said this week.
"That doesn't mean there aren't values to be had out there," he added.

Bailout Refi Plan: Does It Work at 5.5%?

On Monday June 8, 2009, 4:23 pm EDT

For most Americans, the tick up in the rate on the 30-year-fixed from just under 5 percent to around 5.5 to 5.75 percent doesn't mean much, other than yet another bump on the road to potentially buying a home. But to the Obama administration, I have to believe the increase is a huge blow to its homeowner bailout program.
The Making Home Affordable refinance program was designed to allow borrowers with up to 5 percent negative equity to refinance into a lower-rate mortgage. "The Obama Administration's program will provide the opportunity for up to 4 to 5 million responsible homeowners who took out loans owned or guaranteed by Fannie Mae (NYSE: fnm)and Freddie Mac (NYSE: fre) to refinance through the two institutions over time," the press release touted on March 4, 2009.
When I interviewed HUD Secretary Shaun Donovan at the end of April, the first thing he jumped on was mortgage rates. "We've seen, since the plan was announced on February 18th, a dramatic drop in mortgage rates down to record lows for 30-year fixed rated financing, below 5 percent for five weeks in a row now. I think that's incredibly important."
I couldn't agree more. Refinance in April and May surged on the back of those low low rates. On May 14, the U.S. Treasury called a press conference to "Highlight Implementation Progress" on the Making Home Affordable program. It cited 233,000 eligible refinance applications through Fannie Mae with over 51,000 having LTV's between 80 and 105 percent. 2,150 of those refinance loans closed and were delivered to Fannie.
All good, but what happens now that we're at a higher interest rate on the 30-year fixed? I asked Treasury for an interview, but they politely declined, instead sending me the following from a Treasury Spokesperson: "Rising rates will slow refinancing, but we don't expect them to affect mortgage modifications significantly."
The modification program isn't driven by the rate on the 30-year fixed, since banks are lowering interest rates much farther than that for eligible borrowers. But the refi plan, which was expected to help more borrowers than the modification plan (borrowers who are not yet behind on their monthly payments) is all predicated on those low low rates.
Guy Cecala, of Inside Mortgage Finance, says, "if rates hover around near 5.5 percent, it will be harder to generate a lot of refi business since most people already have rates around percent." But he adds, "I think the recent rise is an aberration and that mortgage rates will drift back down to under 5 percent within the next month or so." He bases that assumption on the fact that 90 percent of the current mortgage market is government-related (Fannie, Freddie, FHA, VA).
But Mark Hanson of the Field Check Group is less optimistic about rates. The borrowers who qualify for the refi program already had fixed rate loans. "Someone with a 60 percent LTV 2 years ago has 105 percent today. Back then that 60 percent person already got under 6 percent," notes Hanson.
And he doesn't see rates going back down either: "I think the Fed does something near term to try to wrestle rates back down, but I do not think they can stay meaningfully below 5 percent over time without being national subsidized at 4.5 percent."

How To Secure a "Steal of a Deal" at an Auction

12 tips to buying a home at auction
By Steve McLinden • Bankrate.com

Foreclosure filings soared a staggering 81 percent over 2007, according to RealtyTrac, as one in 54 U.S. homes suffered the dreaded "Notice of Assessment Lien Foreclosure Sale" stigma.
This year? The numbers will be large again.
For bargain-seeking homebuyers, such doom-and-gloom translates into the dawn of opportunity -- a chance to net that elusive "steal of a deal" foreclosure house.
Not surprisingly, 2009 will be a record year for home auction numbers, says Rob Friedman, chairman of Irvine, Calif.-based Real Estate Disposition Corp., or REDC, which will preside over an estimated 500 auctions by year's end, the most in the firm's 19-year history.
For many people, it will mark the first time they attend a home auction -- either a large auction like REDC's or those smaller, trickier "trustee auctions" routinely conducted on courthouse steps around the country. Both can be intimidating for novices and fraught with unseen peril, particularly the latter.
In the larger sessions, which typically feature dozens of foreclosed homes in a sizable geographic region, novice attendees might feel lost in a sea of bid-calling, whistle-blowing and exotic finger signals. An estimated 1,400 people attended a March auction at New York's Jacob K. Javits Convention Center, twice the number that attended last year's auction at a much smaller site.
Interested parties should test the waters by attending a smaller auction as an observer, experts suggest.
"Getting a steal at auction boils down to preparation," says Friedman, whose firm presided over the New York event. The biggest auction mistake, he says, is lack of preparation.
"You have to set out to quantify risk, inspect the property well and then quantify the necessary repairs and run price comparisons, or 'comps,' in the neighborhood so you'll know the values," he says.
Depending on the size of property, bidders at these auctions will usually need to bring a certified check for $5,000, made payable to their own name, to show the auction firm they have legitimate intent, Friedman says. The successful bidder then signs the check over to the auction company. Losing bidders simply redeposit the check in their accounts.
Larger auctions usually have two or three of the largest mortgage lenders in attendance, though buyers "are certainly allowed to go to their own lenders," Friedman says.
Then there's the matter of the "buyer's premium." REDC and similar firms such as Williams & Williams usually charge a 5 percent fee for their services. Friedman suggests that would-be buyers add that sum into the calculations of the amount they are prepared to pay at auction. Unlike trustee auctions, homes at these events nearly always have free-and-clear liens and up-to-date property taxes and fees.

Foreclosure-Prevention Plan: Modification and Refinancing

How the Plan Would Work for Borrowers

By JAMES R. HAGERTY

Here are answers to some common questions about the Obama administration's new foreclosure-prevention plan.

What do these programs involve?
One component calls for reducing payments for distressed borrowers through modifications of loan terms, known as loan mods. A second involves refinancing mortgages for some people who are current on their payments but have little or no equity in their homes.

When does this start?
Immediately.

How do I know whether I qualify for a loan modification?
For starters, this program applies only to your primary residence. That could be a home for one to four families, condo, cooperative apartment or manufactured home affixed to a foundation. It doesn't apply to second homes or investment properties, and the home can't be vacant or condemned. It also doesn't apply to mortgages on one-unit homes whose balances exceed $729,750.
And it isn't for people who can easily afford to pay their loans. You qualify only if your mortgage payment is more than 31% of your pretax monthly income. The monthly payment includes principal, interest, taxes, insurance and homeowner association or condominium fees. Income includes wages, salary, overtime, fees, commissions, tips, Social Security, pensions and other items.
You may qualify whether or not you are up to date with your payments, but you will need to show that you don't have sufficient cash or other readily available assets to meet your current payments.

If I think I may qualify, what's the first step?
Call your loan servicer, the company that sends you your monthly mortgage bill. If you want a counselor to help you, you can request free counseling from approved counseling organizations by dialing the Hope Hotline at 888-995-4673. Avoid firms that charge you a fee for helping you get a loan mod.

Aside from lower payments, what are the benefits of participating?
As long as participants stay current on the modified loans, they can get reductions of as much as $1,000 each year in their principal balance for five years.

Can everyone with a hardship be helped?
No. Servicers will apply a "net present value" test to determine whether a loan modification is in the financial interests of the lender or investor who owns the loan. If it isn't, you may not qualify.

Do I have to pay a fee for a loan mod?
No.

How do I know whether I qualify for the refinancing part of this plan?

You must be current on your payments and your loan must be owned or guaranteed by government-backed mortgage companies Fannie Mae or Freddie Mac.
These refinancings are designed for cases in which the loan balance is between 80% and 105% of the estimated value of your home. (Those below 80% should be able to get refinanced without the help of this program by contacting lenders or mortgage brokers.) Loan servicers will use computer programs or other means to estimate the value of your home.
These refinancings also are available for second homes and investment properties in some cases.

How do I find out if my loan is owned or guaranteed by Fannie or Freddie?
Your loan servicer or counselor should be able to determine that. On your own you can contact Fannie by calling 1-800-7FANNIE or visiting this Web site: www.fanniemae.com/homeaffordable. To reach Freddie, call 1-800-FREDDIE or go to www.freddiemac.com/avoidforeclosure.

Do I have to pay a fee for a refinanced loan?
Lenders or mortgage brokers may charge fees, which are likely to vary.

How long will these programs last?
The modification plan ends Dec. 31, 2012, and loans can be reworked only one time under this program. The refinance program ends in June 2010.

Where can I get more information?
The U.S. Treasury has provided information at http://www.financialstability.gov/.

Renters Lose Edge on Homeowners

Cost Gap Returns to Historical Norms in Some Markets as House Prices Drop

By NICK TIMIRAOS

The relative cost of owning versus renting is swinging back in favor of homeownership in some U.S. markets, buoyed by several quarters of sharp declines in home prices.

At the height of the housing boom, as home prices surged, demand for rentals started to rise as the gap between owning and renting widened significantly. Even after the housing market soured, apartment demand grew as former homeowners became renters, allowing landlords to push healthy rent increases.

Now, after two years of rapid home-price depreciation, the relationship between the cost of rental payments versus after-tax mortgage payments is tilting toward ownership in a number of metropolitan areas.

Over the past 18 years, after-tax mortgage payments have averaged 26% more than rent payments, according to Green Street Advisors, a real-estate consultancy based in Newport Beach, Calif. In 2006, at the height of the housing bubble, mortgage payments reached as high as 66% more than rent payments. But by the end of 2008, average monthly rent for the largest 50 metropolitan areas was $1,045, compared with after-tax mortgage payments of $1,300, assuming a rate of 5.5% on a 30-year fixed mortgage. That means mortgage payments averaged just 24% more than rent payments, the narrowest gap since 2001.

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A new housing development in Las Vegas, a market like several others in the U.S. where the cost equation has shifted in favor of homeownership.

In more than half of the top 50 U.S. housing markets -- including Los Angeles, northern Virginia and Las Vegas -- the ratio is now below its 18-year average. In Los Angeles, for example, mortgage payments averaged 60% more than rent payments between 1990 and 2008. Now, those payments average 30% more than rent.

"We're not saying on an absolute basis that it's cheaper to own a home, but on a relative basis...owning is looking much more attractive than it has in a long time," said Andrew McCulloch, a Green Street analyst. While the shift doesn't mean that renters will rush to buy homes soon, "it's not a 'no-brainer' anymore if they're going to rent versus own," he said.

If mortgage rates fall to 4.5% -- and some economists have called for the government to push rates to that level to ease the housing crisis -- mortgage payments would average 14% more than rent payments, a level last reached in 1998.

While lower rates could further boost home affordability, that may not be enough to overcome a psychological barrier for many would-be buyers who believe homes will become even more affordable. "One of the challenges in the housing market is not only affordability but also willingness to buy," said Nicolas Retsinas, the director of Harvard University's Joint Center for Housing Studies. "People are still worried about falling prices."

And lending standards are much tighter than they were during the housing boom, when less-creditworthy tenants left apartments in droves to take advantage of no-money-down financing. At the housing market's peak, nearly one in four renters left to buy homes, said Richard Campo, chief executive of Houston-based Camden Property Trust. That rate fell to near its historical norm of around 12% by the end of 2008. "The nonqualified renters are not moving out this time," said Mr. Campo.

A separate report by Moody's Economy.com also finds that home prices relative to rents are more in line with their historical relationship. Using data that measure average home prices and rent payments for 54 metro areas between 1984 and 2004, Moody's Economy.com estimated that eight markets are "undervalued." In those eight markets, home prices relative to rents are below or within 5% of their historical levels. "The bottom is coming into view," said Mark Zandi, chief economist at Moody's Economy.com, "But we've still got a ways to go."

The report notes that home prices relative to rents remain well above historical levels in 30 markets, including Philadelphia; Portland, Ore.; and Virginia Beach, Va.

Lower prices and interest rates are spurring some buyers to get off the sidelines. Jason Schanta, 37, an independent contractor, has been ready to buy for three years, but he said he waited because Southern California home prices had become "outrageous."

"I'm not an economic guru but I knew the bubble was going to burst," he said. He is ready to buy a $500,000 home if Bank of America Corp.'s Countrywide Financial unit approves a short sale on the property in San Juan Capistrano, Calif. (In a short sale, the lender agrees to sell a home for less than the value of the mortgage.) Mr. Schanta currently rents a three-bedroom house for $2,250 a month, and says that he will pay just $150 more in mortgage payments and taxes for a house that has an additional bedroom and 350 more square feet. "Renting now costs just as much as buying," he said.

Others are finding that they could pay less on their mortgage than they would on rent. Carla Zeineh, 22, and her husband recently began shopping for a home in Irvine, Calif., and discovered that with a 5% mortgage rate, her monthly payment on a $350,000 two-bedroom home with 20% down could be less than the $1,800 month that they pay in rent on their two-bedroom condo.

Who Gets To Refinance

by Jack M. Guttentag
Posted on Monday, February 9, 2009, 12:00AM

It is unusual to have a refinance boom in the middle of a foreclosure crisis. In the 1930s, which was the last time we had a foreclosure crisis comparable in magnitude to this one, lenders were so spooked by the foreclosures that there was almost no refinancing. That changed only after the creation of the Home Owners' Loan Corporation (HOLC) in 1933, which refinanced many borrowers at the government's risk.
The refinance boom today is also fueled by government. With few exceptions, refinanced loans are either being sold to Fannie Mae or Freddie Mac, or insured by FHA. The requirements of those agencies largely dictate who can and cannot profit from a refinance.
The refinance decision involves a comparison of what a borrower has with what he can get. For example, if he is currently paying 5 percent and can refinance at 4.5 percent and no fees, he will profit from the refinance. If he is currently paying 7 percent but the best he can get in the current market is 7.5 percent, he won't.
Borrowers with fixed-rate mortgages (FRMs) usually know what they have, but borrowers with adjustable rate mortgages (ARMs) often don't. I have received letters from borrowers in a state of high anxiety because their ARM faced a rate reset and they felt they had to refinance before that happened. In some such cases, a close look revealed that their rate was probably going to drop sharply, making it unnecessary to refinance quickly -- if ever.
Readers who ask me whether they should refinance usually tell me what they have but seldom tell me what they can get. They expect me to know that, but I don't because it depends on so many factors specific to them that they haven't told me about.
Borrowers in the best position to refinance profitably have loan balances of $417,000 or less secured by a single-family house in which they reside. They will also have a credit score of 800 or more, and have equity in their property of 20 percent or more. The interest rate premiums associated with deviations from this standard are larger today than I have ever seen them. Note: The premiums reported below are those being quoted by large wholesale lenders on 30-year FRMs, and are reflected in the retail rates quoted by mortgage brokers and many if not most lenders. They may not apply to smaller credit unions or community banks.
Loan Size: Borrowers with loan balances above $417,000 up to $625,500, who live in higher-cost areas where Fannie and Freddie are authorized to buy loans up to $625,500, will pay a rate premium of about 1 percent. These are conforming jumbo, meaning that they can be purchased by the agencies but are priced higher than non-jumbos.
Borrowers with balances in excess of $417,000 who do not live in a high-cost area, or who have balances in excess of $625,500, will pay a premium closer to 2 percent. These are "non-conforming jumbos" that cannot be purchased by the agencies.
Type of Property: On loans secured by condominiums, figure on paying a rate premium of .75 percent, and on 2-family to 4-family homes, the premium can be twice that large.
Loan Purpose: If a loan is secured by an investment property, figure on paying a rate premium of about 1.375 percent. Those refinancing who borrow more than their loan balance will pay a premium of about .25 percent. However, they can finance settlement costs without it being considered "cash-out."
Credit Score: Shortfalls from excellent credit, defined as a FICO score of 800, have become very expensive. Even a score of 780 can cost a rate premium of .125 percent. The premium on a score of 700 is about 1.125 percent, and on a score of 600 it can be a prohibitive 2.625 percent.
Equity: If a borrower has equity of less than 20 percent -- meaning that the loan balance exceeds 80 percent of current property value -- he will pay a mortgage insurance premium. This can make refinance a loser for borrowers whose recently purchased homes have declined in value. For example, if Jones borrowed $160,000 to purchase a home for $200,000 in 2005, he still owes $158,000, and the house is now worth only $180,000, a refinance will require mortgage insurance where the original loan did not. If the house is worth only $150,000, the loan can't be refinanced at any price.
Approval: On loans that will be sold to Fannie and Freddie, increased risk premiums have been accompanied by tougher approval standards. In particular, documentation of income, which had grown lax and sloppy during the go-go years, is now rigorously enforced. Approval is also dependent on a satisfactory combination of all the risk factors discussed above. For example, a FICO of 650 might be approvable if all other factors are favorable, but a 650 score on an investment property with only 5 percent equity will be rejected.
Loans that won't be approved by the agencies might past muster with FHA, whose requirements are more liberal. But FHA loans carry higher rates and insurance premiums.