Oct 31, 2013

More People Will Buy Homes if Prices go Up - nice theory by Fed senior economists

According to the Mortgage News Daily, sale inventories have been slow to rebound from the Great Recession even though home prices have increased steadily since 2012. Two Federal Reserve Bank of San Francisco senior economists, William Hedberg and John Krainer theorize that prices are still not high enough to entice many sellers.  For some this is because the value of their home is still below the outstanding balance on their mortgage (also known as a negative amortization in mortgage parlance), meaning that sellers would have to bring cash to the closing.  For others it may be that their equity is not back to a level that motivates them to sell.

Economic theory suggests that all homes are for sale if the price is right, but at any point in time, the price may not be right. Sellers have their own ideas about what is "right" and must also consider that selling a house can be costly because of brokerage fees, and necessary or cosmetic changes to the house.  For these reasons and others the active listing a home is viewed by economists as a strong signal of an intent to sell and they measure the short-run supply of homes for sale, the inventory, by the listing numbers.

Good times or bad, there is always some level of inventory in the housing market.  Some owners sell to move up, others to downsize, other move for employment reasons, or to free up cash.  These are life-cycles motives not necessarily tied to the business cycle and produce a general level of churning in the market.  Nevertheless the authors say there is a distinct cyclical pattern to inventories which rise in good times and fall in bad times. 

Credit conditions, which are also cyclical, can account for some of this.  Risk premiums charged by lenders and their willingness to lend, tend to ease during good economic times, allowing more potential buyers to enter the market. But it is the level of house prices which is by far the variable that most influences the inventory of homes for sale.

Even though not all listed homes are vacant Census Bureau data on the numbers and price level of vacant homes have a long history of indicating the relationship between inflation-adjusted house prices and for-sale inventory.  As Figure 1 shows, inventories generally move with prices and changes in house prices have a causal effect on inventories.  The two series are tied together in a long-run relationship and the authors say this makes sense as rising house prices should encourage home owners to sell and thus inventories to rise.
Vacancies for sale over the years

Inventories do not instantly react to house price changes and other economics can disrupt the price/inventory relationship as is evident in the most recent time period in the figure above.  House prices have been recovering broadly since 2012 but inventories have been declining.  Only recently have they begun to rise.

The relationship between inventory and prices may have broken down for an extended period as the market rebounded in 2012 because of fallout from the housing boom and bust.   The boom saw an unprecedented rise in homeownership rates with younger households more willing to buy and eased lending allowing in less qualified borrows.  When those trends reversed the inventory shifted from homes for sale to homes for rent with the later rising steadily during the recession and the for-sale inventory dropping and only recently stabilizing.

The authors say the data does not go back far enough to show if this is a typical reaction but some Census Bureau data suggest it is unprecedented since the 1960s.  The phenomenon is widespread and cannot be accounted for solely by the surge in foreclosures.  The inventory of homes in foreclosure has recently been falling in most markets but the ratio of owner occupied and renter occupied units has remained down. Thus, either preference for home ownership has shifted or, more likely, credit constraints have affected household home purchase decisions.

The changes in for-sale and for-rent inventories are seen most dramatically in markets like Las Vegas, Phoenix and Miami where foreclosures were high and investors have been buying large numbers of the foreclosed properties.  In these market the total inventory of homes for rent is approaching that of homes for sale, a remarkable shift that has continued throughout the recovery.  But, in addition to the investor-effect the decline in homes for sale is very closely linked with the large downward shift in the home ownership rate in these markets. It is impossible to say though whether declining sales are pushing down home ownership rates or falling home ownership is pushing down sales, or both are interacting with each other in a complicated feedback process.

Tight credit conditions may be affecting both the ownership decisions of young buyers and the supply side of the market.  In theory, falling house prices alone may keep some home owners from selling. It may seem logical that decisions to sell should be based only on information about current and future market conditions and the authors point to research that shows home owners take more time to sell if home prices have fallen since the original purchase. That is, two similar home owners experiencing similar housing market conditions will behave differently if one of those home owners has an unrealized loss on his or her house.
Falling prices may hold down home sales for several reasons. An underwater home owner may be unwilling or unable to make up the difference between sale proceeds and mortgage balance and chose to delay selling.  Even if there is equity, it may be reduced enough that no cash is available for the down payment on another home.

Since early 2008, homes for sale and homes underwater have been negatively correlated.  Counties with a high share of underwater mortgages have tended to have smaller for-sale inventories.  The authors say that while this relationship is significant, its strength diminished as the recovery got under way. Underwater borrowers may have been locked into their houses in a way that impaired the normal functioning of the housing market. But that effect seems to be waning.

Another explanation for this breakdown is that home owners may be taking a longer view of the market.  In the housing cycle price changes are persistent, that is both price rises and price drops are likely to be followed by more of the same.  Home owners who can be flexible on timing a sale can take advantage of this persistence, waiting and gambling that increases will continue and they can sell at a higher price.
Figure 4 confirms on a county level the negative relationship between prices and inventories shown at the aggregate level in Figure 1. Where counties experienced relatively large price increases they also saw for-sale inventories decline.

The authors say it turns out that that variables such as recent house price appreciation and changes in employment are the most robust predictors of recent changes in housing inventory. Once these are accounted for other variables, such as changes in the for-rent inventory, the underwater share, or local price-rent ratios, do little to explain the inventory of houses for sale. "Thus, current home owners may be making a rational choice to postpone selling in the hope that prices will rise further. However, this behaviour tends to be short run. In the longer run, the link between the level of house prices and for-sale inventories is strong. If prices continue to rise, inventories for sale should eventually rise too."

Conclusion of the article:

History shows a long-run relationship between house prices and the number of houses available for sale. Thus, current inventories of homes for sale are low given more than a year of house price appreciation. County-level data suggest that many home owners are waiting for prices to rise further in their markets. Markets that have seen the strongest house price appreciation and job growth are the ones where for-sale inventories have declined the most.

Oct 22, 2013

CFPB and the new mortgage rules.

New mortgage rules recently released by the Consumer Financial Protection Bureau (CFPB) will change many of the mortgage lending rules as of January 1, 2014, and affect both banks and other mortgage lenders.

The most significant new rule is the Ability-to-Pay rule. In brief, creditors must determine a borrower’s ability to repay a mortgage, at a minimum evaluating eight underwriting factors:

  • Current or reasonably expected income or assets
  • Current employment status
  • Monthly mortgage payment
  • Monthly payments on other loans
  • Current debt obligations, alimony and child support
  • Monthly payment for mortgage-related obligations
  • Monthly debt-to-income ratio or residual income
  • Credit history
  • No dual compensation for loan originators
  • No prohibition on consumer payment of upfront fees and points
  • Individual loan officers, mortgage brokers, and creditors must be "qualified" and, when applicable, registered or licensed under state and federal law
  • Mandatory arbitration clauses are not allowed
  • Record-keeping requirements for loan originators and mortgage brokers are now three years
  • Subprime mortgage loans can only be made if the creditor obtains a written appraisal; the appraisal is performed by a certified or licensed appraiser; and the appraiser conducts a physical property visit of the interior of the property
Lenders must use reasonably reliable third-party records to verify the information. In addition, lenders are encouraged to refinance "non-standard mortgages," such as those with balloon payments, into "standard mortgages" with fixed rates for at least five years that reduce consumers’ monthly payments.

The other significant new regulations affect mortgage servicing and certain fees, including:
These new rules aim to curb mortgage delinquencies, foreclosures, real estate "flipping," and costly surprises.
- See more at: http://www.bakertilly.com/CFPB-and-the-new-mortgage-rules#sthash.cPTct00y.pdf

Oct 19, 2013

CFPG creates incentives for consumers to pay brokers fees.

According to National Mortgage News, the compensation paid by the creditor to a mortgage brokerage firm should be included in the 3% cap under the qualified mortgage rule. In addition, any origination fee paid by the consumer to the creditor must be accounted towards the 3% cap. The CFPB said that this CAP ensures that lenders offering qualified mortgages do not charge excessive points and fees.

However the CFPB said that creditor may reduce the cost it needs to recover from origination by having the consumer pay the mortgage brokers directly. This rule comes into effect by Jan 10th, 2014. The final rule is that if the origination fees are included in the finance charge then, the origination fees paid by the consumers to the brokerage firm can be excluded. To read more click here.

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