The Aftermath: Fed Decision and Policy Announcement

by Alex Stenback on December 17, 2008

Yesterday, about the time the Fed was announcing the latest shot of monetary policy cortisone for the financial system, we were laying prone getting an actual cortisone shot.  To the spine.  With a needle about as long as the sentence you are reading.  Really a fun experience.  We can’t recommend herniated discs, and the attendant treatment regimen enough.

The timing of the procedure precluded our normally timely musings on the Fed, but also gave us time to reflect upon the extraordinary circumstances we are witnessing.  In fact, if you read our Monday Market Commentary, the Fed statement played out almost exactly as we predicted:

We said:

Expect the Fed to trim the benchmark Federal Funds rate by .5-.75%. 

More importantly, the Fed may allude to increased “quantitative easing” (remember that term) measures.  With Fed Funds rates already super low, there’s not much more they can do with that particular tool to goose the economy; So we may see the Fed increasingly target rates and credit markets not under their direct control (mortgage rates, business credit, other consumer loans, etc.) in an attempt to shake loose some economically lubricating borrowing and spending.

And the Fed (emphasis ours):

The focus of the Committee’s policy going forward will be to support the functioning of financial markets and stimulate the economy through open market operations and other measures that sustain the size of the Federal Reserve’s balance sheet at a high level. As previously announced, over the next few quarters the Federal Reserve will purchase large quantities of agency debt and mortgage-backed securities to provide support to the mortgage and housing markets, and it stands ready to expand its purchases of agency debt and mortgage-backed securities as conditions warrant. The Committee is also evaluating the potential benefits of purchasing longer-term Treasury securities. Early next year, the Federal Reserve will also implement the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses. The Federal Reserve will continue to consider ways of using its balance sheet to further support credit markets and economic activity.

So there you have it.  Loosely translated the above passage says the Fed will pull out any and all stops to rescuscitate the economy and force money from the banks down to the street level in the form of lower rates and more lenient credit standards on all types of borrowing, but especially mortgages.

The immediate result is Fixed Mortgage rates are sitting well below 5% for many, and look like they are headed for 4.5% or lower.  The secondary market is pricing in the possibility of 4% 30 year fixed rate mortgage money.  Just amazing, amazing numbers, when you take a moment to think about it.

Wherever this ends, one can probably rest assured that we will never again see mortgage interest rates at these levels for sustained period of time in our adult lifetime. 

That is a good thing, of course, but one thing is certain in the mortgage market. Whatever goes down, eventually comes back up.  Sometimes very quickly.  So while it might be tempting to see just how low rates will get, tread carefully.  Looking 4.5-5% fixed rates in the face and blinking can get you burned, but quick.

Also remember that in order to refinance, you need, at a minimum:

1.  Equity in the property (unless of course you have an FHA Mortgage, which allows no-appraisal refinances.  These may be coming in the conventional market soon, by the way) which is far from a no-brainer even if you put 10-20% down in the last three years. Also, home values are probably not at a bottom just yet, so there may be more pain to come.

2.  A job.  Many people who have a job now may not when rates hit bottom (if they haven’t already.)

If you have not done so already, it is time to reach out to your mortgage guy or gal.  And if you don’t have a go-to someone you can call, feel free to drop us a line.
In the meantime, if you are watching mortgage rates, subscribe to our Ratewatch Twitter feed for several-times-daily updates to the mortgage market and interest rates via the web, RSS, IM, or your phone.

{ 2 comments… read them below or add one }

MT December 18, 2008 at 1:43 pm

Any ideas on interest rates for mortgages on rental properties? I have a SFH that I rent out and am wondering if there is refi opportunity for non-owner occupied.

John Mazzara December 25, 2008 at 9:36 am

A solution to the crisis is no just about rates. It involves other ideas. Here is a short list of my suggestions:

Open Letter Concerning The Crisis In The Markets-Real Estate, Mortgage, Securities

As someone who has worked in the financial industry since 1986, I feel I have a valid opinion from the perspective of a seasoned practitioner concerning the causes and remedies of the current financial crisis. I work in the real world with real people who have hopes and dreams. I’m in the marketplace dealing with individuals at ground zero every single day. I run three financial businesses concurrently. I am a real estate broker, a mortgage broker, and a financial planner. My career allows me to have great insight into both the problems and the possible solutions to the issues we face today within our complex economy. My hope is that through an understanding of the information presented herein that appropriate and meaningful legislation can be crafted for the betterment of all of society. It is with that goal in mind that I share this information with you today. I’m not a politician. That’s where I need your help.

The financial markets are in upheaval which is possibly leading us into either a recession or a depression. How do we overcome fear and get a REAL stimulus package in place? Are there solutions that are low cost and can be quickly implemented? The answer is a resounding “YES” “YES” “YES”!

Let’s look at five major issues and problems associated with them:

• The current real estate market does not have enough buyers for the current housing inventory. There is a larger supply of homes than buyers to purchase them. Buyers are not motivated. Instead, they are waiting for prices to drop further. They see no end in sight and no reason to take action today. Cities are losing revenue on lower valuations and sellers can’t sell if they ultimately don’t have enough equity to make a move to their next home. We need to put a floor under the valuations of housing so that housing can move forward.
• Loan options have been dramatically reduced. Unless you are a Veteran, there are few options for buyers who lack funds for a down payment. Credit worthy borrowers are unable to buy homes and are forced to remain as renters. Often a rent payment would be equal in cost to that of a mortgage payment. The key is transforming renters into homeowners.
• There is no liquidity in the Jumbo loan market. There are a number of reasons for this. The Jumbo loan market pertains to loans that are larger than $417K. Currently, Jumbo loan underwriting requires borrowers to have larger down payments as well as undergo more stringent qualifying requirements. Larger loans also are charged higher interest rates. In years past, the additional interest rate cost was generally .375-.625% more than with a conforming loan. Conforming loans are loans that are $417K or less. In today’s lending environment, Jumbo loans have a much larger interest rate differential-upwards of 1-2% above conforming rates. This additional interest rate cost is dramatically reducing the demand for these loans and the housing at the upper end of the housing market. Because of this, we are experiencing an even larger drop in valuations associated with higher end home prices. The market values in this price bracket will continue to fall as fewer buyers will be able to qualify or even want to pay the higher interest rates.
• Foreclosures with bankruptcies are increasing. This is occurring because of personal life circumstances and our economy. In many cases, tax laws are not conducive to either pursuing a short sale, selling for less than the mortgage value, or establishing mitigated payments to reduce mortgage debt. Current laws only benefit sellers engaging in a short sale under certain circumstances. From a tax perspective, doing a short sale may cause you to incur a tax liability on the amount of forgiven mortgage debt if you’ve refinanced your home or if the property in question is not your primary residence. Bankruptcy may be the only way to get out from the tax liability on this forgiven debt.
• The stock market is increasingly volatile. Much of the volatility can be attributed to short selling and naked short selling in particular. Short selling involves selling shares that you don’t own, hoping to buy them back later at a lower price. You must borrow these shares in order to sell them short. Current law was changed about 18 months ago to allow you to sell shares short while the price of the stock was falling. This is analogous to throwing gas on a fire. Previously, the law allowed you to sell short only when the stock was moving upward. This is called the uptick rule. By removing the uptick requirement, you’ve unleashed the potential for abuse, as a stock could be sold short as it drops in price, driving it into the ground. Naked short selling involves selling shares that don’t even exist, thereby flooding the market with an inflated inventory of shares at the worst possible time, helping to drive prices lower by creating a huge influx of supply when there is no demand.

Now let’s address solutions to these problems outlined above:

• We NEED to get more buyers into the housing market. HOW can this be done? Bring back seller funded down payment assistance. This allows the seller to provide a gift to a charity which can be equal to the amount of down payment and closing costs. This amount is then given to the buyer from the charity to use as a down payment. In essence the seller funds the buyer costs and the charity was the conduit or pass through entity that delivers the funds. This was extremely useful to borrower’s who could qualify for a loan but lacked the funds to make their purchase. This down payment program arrangement worked with FHA loans and WAS funding 40-50K home sales across the country monthly. When we need more buyers in the market, we never should have removed a program that was working and encouraging home ownership. It was eliminated October 1, 2008 in the last housing reform act bill. Was the program perfect? NO. Could slightly different underwriting guidelines be put in place to make it better? YES. What is the cost to the tax payers? ZERO. Remember the down payment funds came from the seller’s equity. The solution involves fixing the down payment assistance program to make it better, not eliminating this extremely useful program.
• There is a new law that provides a first time buyer tax credit that is repaid over 15 years. This credit expires in June of 2009. A solution would be to make the tax credit permanent. Consider making it better by removing the repayment feature if you stay longer in the home. The credit could be forgiven over time. This would be an enhancement. The cost to tax payer would be VERY LITTLE.
• Bring back 100% financing. We have a model of success-called the VA loan. It has worked extremely well for Veterans since WWII. If you are credit worthy and don’t have a down payment or money for closing costs, you could still be able to make the monthly payment. The programs longevity provides us with a working model. The government could create a similar new loan program for everyone OR allow everyone the opportunity to qualify under VA guidelines. Don’t just limit eligibility to Veterans. The cost to implement this would be ZERO
• Current underwriting guidelines make most people ineligible for a new mortgage loan after a bankruptcy or foreclosure. The current timeline is 1-4 years for a bankruptcy depending on the type of bankruptcy and the specific reason it occurred. The time line from a foreclosure is 2 years if you are a Veteran, otherwise it is generally 4-7 years before it is no longer an underwriting issue on conventional loans. Many of the people who have lost their home would like to be home owners again. By keeping these potential buyers out of the markets longer, the housing inventory will remain high and prices will remain low. Why not change the underwriting guidelines? Instead of 4-7 years, make it 2 years. You could add extra requirements for these borrowers such as tighter underwriting, requiring them to attend mandatory budget counseling classes. They must re-establish a pattern of responsible credit history. This change would bring many people who have been affected by this market back into being homeowners with a stake in our communities. The cost to implement this would be ZERO requiring only a change to the underwriting guidelines.
• Another mortgage solution might involve the government providing a special tax credit or incentive to buy a foreclosed or short sale property. This would stimulate demand for these properties. Instead, when people hear about a bank foreclosure, they immediately sense an opportunity to steal a property and offer less. If we made these properties more desirable, by providing an associated tax credit, we would help shore up the values of foreclosed bank owned homes. This would reduce bank inventory quicker. It would also stop the free fall of values and help the non-distressed homeowners maintain their home equity. The COST would be very little. The exact dollar amount would depend upon the type of monetary incentive which would probably be best delivered through a tax credit to the buyer. Make foreclosure properties more desirable and their prices will firm up within the marketplace.
• The government could also provide down payment and closing cost assistance as either tax credit or under an equity sharing arrangement. Again, the problem for many people is lack of funds not the lack of desire for home ownership. If a typical down payment is 3-10% of a homes purchase price, we could get a lot of homes in the hands of new home owners for very little money. Out of the $700 Billion and other stimulus packages, we ought to be able to find a few dollars for actually stimulating the economy at the ground level. Also, higher incentive amounts could be allocated to certain areas of the country or to communities’ within a state that are undergoing huge amounts of distress and experiencing spiraling devaluation.
• Jumbo loans would be more affordable and desirable if the government was able to underwrite and purchase them under the same terms under which they buy conforming loans. A conforming loan is a conventional loan with a top limit of $417K. Since the government has basically bought the GSE (government sponsored entities) Fannie Mae and Freddie Mac, they can change the authorization limit on the value of the loans they wish to purchase as well as the underwriting guidelines. Increasing the dollar limit so as to include more Jumbo loans has been attempted to some degree in previous stimulus packages. The problem is that they haven’t gone far enough. If the government needs to insure loans over a certain dollar limit, so the rates drop, so be it. We need parity in rates across all mortgage products and a better streamlining of underwriting. I am calling for all loans to be underwritten and priced the same, regardless of loan size. Pricing based on credit and down payment should be the only variables that have an impact. Size of the loan should not matter. If we loosen the higher end home underwriting to mirror that of non jumbo loans, you will help maintain the valuation of larger homes and make them desirable once again. The lack of liquidity in higher end homes is having a very negative affect on values.
• Debt forgiveness laws need to be changed. Forgiven debt shouldn’t be taxed. We need to have other options to work out debt rather than having bankruptcy as the only option to get out from the tax liability associated with both credit card and mortgage liability. The credit card industry is clamoring for this change. The credit card crisis is upon us. We need to get out in front of the problem. No longer can people refinance and use their home equity as a way to pay off their bills. If you incentivize people to work out their financial problems affordably, many will choose to work it out. If the only option you present, because of tax liability, is a bankruptcy and/or foreclosure, then they will choose that option. Increased foreclosures only compound our housing crisis. Cost is ZERO. Legislation may actually increase revenue as people pay something instead of nothing.
• Allowing short selling to continue, without bringing back the uptick rule is unconscionable. In my opinion, elimination of the uptick rule was one of the major causes of our stock market meltdown. Bringing back the uptick rule and eliminating naked short selling will restore value and trust to the markets. Without both, you have all the ingredients for distortion and manipulation of stock prices. You need look no further than from the time the law was changed to the present for the proof. Unless we restore confidence to the investment marketplace, we risk a protracted and weakened capitalistic society. Investing in the markets is what helps create capital and jobs. Cost is ZERO. Bringing the uptick rule back and enforcing the short sale rules that are on the books dealing with these abuses will restore confidence in the markets.

These are my solutions to the major problems we are facing today. If you need clarification about any of the problems and solutions I’ve proposed I would welcome a phone call and the opportunity to discuss this with you further.


John Mazzara

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