Saturday, January 18, 2014

9 Ways Real Estate Will Change this Year

9 ways real estate will change this year

By Keith Gumbinger of
Each year, details the important factors most likely to influence the mortgage and real estate markets in the coming year. While it seems we have made our way out of the turbulent times that have bounced the market around for the last few years, there is still plenty of uncertainty ahead.
Here are nine factors that will affect the markets in 2014.

Mortgage rates (© Jupiter Images)1. Mortgage rates: Expect 5 percent for fixed-rate mortgages

If everything goes as planned, there will be good news and bad news for mortgage shoppers in 2014.
The good news is that mortgage rates will remain historically favorable; as we've noted at times, if you leave out the Fed-induced record lows of the past year or so, the previous record low, set in more "normal" market conditions, was a bottom of 5.24 percent in June 2003. The bad news is that fixed-mortgage rates are more likely to tend toward the higher rather than lower end of the scale in 2014.

Several factors will conspire to firm fixed-rate mortgages somewhat in 2014:
Obviously, the first is the Federal Reserve slipping out of the direct-mortgage-su
pport-market business, which should firm mortgage rates somewhat. As the Fed does this, the more typical market-moving forces of economic growth and inflation will become the drivers of rates, and there are some reasons to believe that economic growth will be reliably stronger in 2014 than it was in 2013, which would add to the firmness in mortgage rates. Inflation is not a concern at present but is never far from the minds of investors, and a growing economy may see some thoughts turned that way.

Adjustable-rate mortgages are a different story, though. Even with quantitative easing tapering and completion likely at some point in 2014, the Fed will take pains to continue to remind the markets that short-term interest rates will remain exceptionally low for the foreseeable future. These are the rates which govern and influence ARM pricing, and while these rates will of course move up and down through the year, the already considerable gap between fixed and ARM rates may widen, making these mortgage products even more attractive for certain borrowers.
Mortgage rates (© Dana Hoff/Getty Images)
Mortgage-rate forecasting is a tricky business, even over the short term, let alone a whole year. That said, we're always willing to give it a shot, even if the range for rates is necessarily wide:
  • Conforming 30-year fixed-rate mortgages (and jumbos, too, if the below item comes to pass): It's reasonable to expect 4.375 percent to 5.625 percent borders in place for 2014.
  • 5/1 hybrid ARMs: Call it a range of 2.875 percent to 3.875 percent.
As a side note, and because the guarantee fees that Fannie Mae and Freddie Mac charge to lenders to protect them from loss will be rising again in 2014, it is likely that we may begin to see fixed-rate jumbos priced below their conforming counterparts on a more regular basis at times during 2014. While this "inversion" existed at times in 2013, it was not a market-wide phenomenon, but rather limited to certain lenders. More expensive conforming loans and spirited competition for jumbo buyers may promote this inversion on a more widespread basis.

2. Real estate: Markets and prices stabilizing

One of the hallmarks of 2013 was the return of a competitive real estate market. Demand was driven by low mortgage rates and low home prices, a firmer job market and perhaps a sense of opportunism by investors. However, that demand was not really met by supply, driving up home prices; at the same time, mortgage rates rose, driving up costs.

Outsized gains in home prices in 2013 were no doubt sparked by record or near-record-low mortgage rates. Those have left the market, probably never to return. In their place are roughly multi-year highs for rates, making it less likely that the run of double-digit increases in home values can continue in 2014. Although there's no reason to expect mortgage rates to perpetually march higher in 2014, it is reasonable to expect that they will be somewhat higher than 2013, especially if the economy continues to find traction.

Real estate (© Don Bayley/Getty Images)

At other times when home prices have risen so quickly as to outstrip incomes, and often at times when mortgage rates have risen, we have seen the emergence of so-called "affordability" products designed to give borrowers greater leverage so that they can afford these pricier homes. Such products have allowed for low or no down payment, interest-only payments, high debt-to-income ratios and other constructs. These allowed potential buyers to further leverage their incomes or their assets; in turn, this helped allow prices to continue to rise as it helps to put more potential borrowers in the market or allowed those in the market to stretch their budgets.

Two other factors which are affecting home prices also are in play:

1. Tight supplies of existing and new homes have engendered higher prices; however, those higher prices may begin to lure some sellers back into the market as they will have recovered a portion — perhaps most or even all — of the equity lost in the downturn.

2. As such, inventories of available homes may rise, helping to temper price increases, and that's without necessarily considering properties coming on the market from lender's books.
Overall, we expect the recovery in housing markets to persist in 2014, but in a context of flattening gains for home prices, higher inventory levels and firm mortgage rates and underwriting standards.

3. Fed taper: Stimulus is going, going, gone

As we write this the Federal Reserve has begun the process of tapering purchases of Treasuries and mortgage-backed securities. Now started, it is a certainty that they will continue the process in 2014 and may completely halt qualitative-easing (QE) purchases altogether by mid-year. Of course, the economy will need to perform well — which is never a certainty — but an economy growing even modestly does not require the kind of emergency-level and extraordinary support the Fed has provided.

The QE program has been reduced to a $75 billion per month run rate, with reductions in purchases of both Treasuries ($5 billion) and mortgage-backed securities ($5 billion). If the economy cooperates, other steps could accompany the first four Fed meetings in 2014 (Jan. 28 to 29, March 18 to 19, April 29 to 30 and June 17 to 18) in reductions of equal size. However, the process could be a little more protracted than that, perhaps running through September, with two additional meetings.
One reason for the Fed to step out of mortgage-backed securities purchases is plain to see: The number of mortgage originations — and hence, the number of purchasable mortgage-backed securities — has been dwindling, what with the slump in refinancing which began in mid-2013. At one point, the Fed was "only" buying perhaps one-third of new government-sponsored enterprise mortgage backed-securities, or less. But as recently as November, the Fed's purchases of mortgage-backed securities represented more than half of the market. The Fed wants to reduce its influence; however, its fixed-dollar commitment to buy these assets, rather than simply some flexible percentage of the market, means that as loan volume slips the Fed's share grows. Although the Fed may leave this space, there should be an appetite for these high-quality securities, just as there was when volumes were higher, so the impact on rates should be limited.

4. Fannie, Freddie reform: Nope. Well, maybe. Or sort of.

Through record profits and a mandatory commitment to send all of them to the Treasury, Fannie Mae and Freddie Mac have "repaid" all of the $187.5 billion dollars they "borrowed" to be kept afloat as the housing and financial crisis unfolded.

However, as the firms are not technically allowed to pay off the debts, they cannot free themselves from the shackles of conservatorship and return to the markets unfettered and free. Instead, they remain wards of the state, at least until Congress makes a decision as to how exactly to reform or eliminate them. Given the dysfunction in Congress, this seems unlikely in 2014, but that doesn't mean that there won't be any changes.

Former FHFA head Edward DeMarco did an excellent job in promoting the solvency of Fannie and Freddie and even has made good progress in creating a common securitization platform, a key step toward either consolidating the GSEs into a single entity — or perhaps a precursor of a new entity yet to be designed. Will that happen in 2014? Probably not.

The explanation is a bit roundabout, but record profits at Fannie and Freddie have come from stronger values for loans with tight underwriting standards and declining losses on legacy holdings. With the $187 billion bailout "repaid," the GSEs are now kicking in billions of dollars to the Treasury each quarter. These are dollars that the Congress would like to have to spend, and full-blown reform might disturb this free flow of spendable cash. Given the Federal Housing Administration's shaky fiscal situation, perhaps those funds should be earmarked to support the flagging FHA insurance pool, instead.

The new year has brought a new head of the FHFA, perhaps one less committed to full-blown reform of the GSEs and the concept of protecting the taxpayer from loss. It could be that new FHFA director Mel Watt may convince Congress to allow the enterprises to commit some or all of these funds toward affordable-housing goals, principal reductions for still-underwater borrowers, expanded HARP refinance offers or other such measures. None would likely be possible if reform of the enterprises was imminent.

From where we stand, we prefer to see any profits used to lower the considerable "risk premiums" now added into each and every mortgage price. These come in the form of "adverse market delivery fees" (only remaining in four markets after April 1), "loan level price adjustments" and guarantee fees, all of which are passed onto the consumer.

Loan-level price adjustments are slated to increase, and fairly sharply, for many borrowers in April. Reductions in these add-ons would help to make loans somewhat more affordable for all comers, not just some.

5. Regulations: Revenge of Dodd-Frank

ATR. QM. QRM. CFPB. FHFA. GFE? TIL? HUD-1? IYIYI! Consumers who haven't been paying attention to all things mortgage in the past couple of years — and most don't until they are close to starting a transaction — will find some new acronyms to learn in 2014 and some changes to the game.

The new "ability to repay" rule, which puts the onus upon lenders to make sure you can cover your monthly mortgage payments by considering all of your incomes and outgoes, kicks in on Jan. 14. Expect somewhat more scrutiny to occur under the microscope of mortgage lending, as lenders will likely be quite exacting under the new rules, not that they aren't already.

This is all falling under new definitions of what constitutes a qualified mortgage or a qualified residential mortgage. Aside from meeting ability-to-repay rules, these qualified mortgages have other characteristics that lenders must adhere to, including a 43 percent debt-to-income cap. Under the qualified-mortgage rules, if a loan meets all of the provisions, lenders will have some shelter against future lawsuits from borrowers. If not, or if it can be proven that the lender failed to properly assess/enforce the ability-to-repay rule, it becomes easier for consumer to sue and for investors to push failed loans back to the lender, something no lender wants to happen.

Non-qualified mortgage or non-qualified residential mortgages will also require securitizers to hold back a 5 percent position (risk retention), essentially in cash holdings. That will no doubt make industry participants wary and arguably, noncompliant mortgages more costly and scarce.

As lenders become more accustomed to the new rules, the process may smooth out somewhat, but getting a mortgage will likely be an even less comfortable arrangement in at least the early part of 2014.

While the new acronyms above join the mortgage lexicon, two are arguably leaving, including the good-faith estimate, which is being replaced by a new "Loan Estimate" form, while the old Truth-in-Lending form disappears, too, having been incorporated into the new upfront document. On the other end of the mortgage process, a new "closing disclosure" form will supplant the venerable HUD-1 closing statement.

As lenders become more accustomed to the new rules, the process may smooth out somewhat, but getting a mortgage will likely be an even less comfortable arrangement in at least the early part of 2014.

While the new acronyms above join the mortgage lexicon, two are arguably leaving, including the good-faith estimate, which is being replaced by a new "Loan Estimate" form, while the old Truth-in-Lending form disappears, too, having been incorporated into the new upfront document. On the other end of the mortgage process, a new "closing disclosure" form will supplant the venerable HUD-1 closing statement.

6. Growing the audience: Return of 'near prime'?

We've come through a period of time where borrowers have needed fairly pristine credentials to get access to the mortgage market, or at least access to the best-possible mortgage rates. However, that's a finite pool of potential borrowers, and a lot of them were homeowners. With refinancing falling back to more typical levels, there will be a lot of hungry mortgage lenders and investors scouring the market for business.

With an eye toward the qualified-mortgage and qualified-residential-mortgage rules, and the disturbance they will no doubt cause in at least the early part of 2014, we think there is a good chance that some lenders will venture out into some untapped territory to find new borrowers as the year progresses. We know that in 2013 a couple of "wildcatters" began to again offer subprime mortgages under certain and still rigid conditions, but there is an audience for mortgages that won't meet the qualified-mortgage and qualified-residential-mortgage definitions.

These include folks with high-debt loads, those who need or desire interest-only payments, those with temporary black marks on their credit because of job losses, seasonal income streams and others. Provided that serving this audience doesn't become the start of a new "race to the bottom," it would represent another step in getting private money back into the mortgage market in 2014.

7. Lawsuits: Are we done yet?

Lawsuits: Are we done yet? (© Marilyn Nieves/Getty Images)
If we hope to see the "private" mortgage market grow in 2014 to expand opportunities for more borrowers, we'll need to see a diminishment in the number of lawsuits being filed by various "aggrieved groups."

In 2013, we saw tens of billions of dollars extracted from banks and other entities as compensation for actual or perceived wrongdoings during the boom years. Prior years included mass settlements for mortgage-servicing wrongs and shoddy foreclosure practices, but the reality is that many if not most of those funds never reach the actual injured party — homeowners and former homeowners. These lawsuits were supposed to provide compensation to folks who lost their homes or were otherwise treated badly by an ill-managed process, but many states used these windfalls not to help homeowners but to plug holes in budgets or for other needs.

Every billion extracted from a bank needs to come from somewhere or someone. Those someones are shareholders and especially depositors and account holders who pay higher and more varied fees for services and such. The "fear of future loss" because of these things necessarily sees lenders keeping standards tight, because lenders must make higher profits on the loans they do make to help offset the cost of payments. While it is certainly right and proper to compensate an injured party, the reality is that this really isn't what's happening, and all we may be doing at this point is driving up costs and limiting access to credit.

8. Loan modifications: First 'step' to kick in for some

Looking back, 2009 was a long time ago in the mortgage world. In the midst of the crisis of loan failures came the Home Affordable Modification Program, but it was beset by mass confusion on the part of servicers and frantic homeowners looking for help.

Most important at the time was getting homeowners into "sustainable homeownership," promoted by making changes to loan terms, all with a goal of getting a borrower's mortgage debt-to-income ratio down to 31 percent of their monthly gross income. Lenders were encouraged to use methods such as interest-rate breaks and lengthening loan terms out to 40 years to achieve this goal. The new qualified-mortgage rules do not allow Fannie and Freddie to purchase loans with terms longer than 30 years.

HAMP regulations called for a standard modification "waterfall," where the first rule of order to promote affordability called for a reduction in the interest rate to whatever would produce a 31 percent ratio. For some borrowers, this could have resulted in an interest rate as low as 2 percent. Given the nature of these modifications, however, there could be an issue beginning in 2014 for some of the 587,000 homeowners who received a modification in 2009.

If the borrower's modified interest rate was lowered below a market "reference rate" called the "interest rate cap" in the standard waterfall guidelines issued in 2009, the modified loan would allow for a step up in interest rate of as much as a full percentage point beginning five years after the date of the modification.

This market reference rate is the average interest rate for 30-year fixed-rate mortgages as reported by Freddie Mac in its weekly Primary Mortgage Market Survey, rounded to the nearest one-eighth of 1 percent, which was reported as of the date the modification agreement was prepared.
In 2009, the rounded to nearest one-eighth PMMS rate ranged from a low of 4.75 percent to a high of 5.625 percent.

Enter 2014.

It's a fair bet that at least some frantic borrowers in dire fiscal straits missed these clauses about future interest-rate changes and also the one that allows for a continuing 1 percent step up in the rate each year after that until the loan reaches the "reference rate" in place at the time of their loan mod. As such, some homeowners are going to find an unpleasant surprise in their mailbox at some point in 2014 in the form of a notice that details a rise in mortgage costs. For some, it could be the "gift" that keeps on giving, too: A borrower with loan reduced to a 2 percent rate in 2009 could see a 1 percent rise in interest rate in 2014, 2015, 2016, 2017 and possibly 2018, too.

9. Wondering about refinancing activity? Don't bother

Unless we get some form of HARP 3.0, refinance activity will remain low. With mortgage rates already off rock bottom and many borrowers already having braved the mortgage-refinancing gantlet, there is virtually no rate-and-term refinance audience left, excepting folks trading old higher-rate long-term mortgages for new shorter-term and lower rate ones, if they can.

Tight underwriting standards that require deep equity positions mean another year of no-cash-out refinance activity to speak of, either. However, with the Fed committed to keeping short-term interest rate low throughout the year, we might see some additional fixed-rate-to-ARM refinancing, as this may be the only avenue to find interest-rate relief.

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