Northern Virginia Real Estate Blog

In an effort to limit risky borrower behavior, Fannie Mae announced a new round of mortgage guideline changes last week.

Unlike previous its previous 20-plus updates that raised income requirements and minimum credit scores (among other changes), Fannie’s latest guideline tweaks focus on the value of its underlying mortgage assets — home equity.

Effective December 13, 2008, Fannie Mae will require larger equity positions on some of its insured purchases and refinances.

A few of the updates include:

• Limiting primary residence, cash out refinances to 85% loan-to-value
• Requiring 10% downpayments on second/vacation homes
• Requiring a 25% equity position on all investment property refinances

And, while the above changes show a 5 percent equity increase over current mortgage guidelines, some of the other updates call for increases of as much as 20 percent.

As we head into the election and Congress mulls over another economic stimulus package, it’s unclear if mortgage rates will move higher or lower as we close out the year.  We do know, however, that getting approved for a conforming mortgage will, in general, be harder come December 13, 2008.

If you’re finding yourself on the fence about your next move — whether it’s to buy or to refinance — consider taking the necessary steps before the guidelines change.

Low, low mortgage rates don’t mean much if you don’t have enough home equity to get a home loan approval.

(Image courtesy: The New York Times)

Mortgage financier Fannie Mae is toughening its mortgage application decision-making process effective Monday, June 2, 2008.

The new guidelines will force many Americans to face higher mortgage rates, higher loan fees, or to be shut out from “prime” mortgage rates altogether.

The new “mortgage rules” include the following changes:

1. Higher income levels required for basic approvals
2. Interest only loans are now considered high-risk
3. Condos are now considered high-risk
4. 60-day mortgage lates within 6 months are a major red flag

Not all of the changes are for the worse, though.

In the new guidelines, self-employed borrowers will no longer be viewed as more risky than a W-2 employee. This will help small business owners and commission salespeople get more mortgage approvals than in the past.

Fannie Mae agreed to honor all mortgage approvals granted prior to its changes, so if you’ve been putting off that pre-approval, consider talking to your loan officer before the weekend starts.

Your mortgage approval will be much more lenient today than if you wait until Monday.

Loan-to-value is a math formula that represents the relationship between how much a home is “worth” and how much money is borrowed against it.

Loan-to-value is often abbreviated as “LTV” and is one of the many factors that lenders consider when underwriting a mortgage application.

The math formula is straightforward:

In the LTV equation, Loan Size is the amount of money borrowed from the bank and Home Value is the lower of the home’s purchase price or appraised value.

Home loans with low loan-to-value ratios are usually less risky for banks. This is one reason why mortgage rates tend to be more favorable for home buyers and homeowners when their respective LTVs are low.

Typically, a “low” LTV loan is one in which the loan-to-value is 80 percent or less. In some instances, however, 70 percent is considered “low”. The cut-off point depends on the mortgage lender and the mortgage product.

On a home purchase, the one way to lower LTV is to make a larger downpayment, thereby reducing the LTV equation’s numerator. Buying a home for below-market value would not reduce LTV, for example, because the purchase price would be used as the equation’s denominator.

On a home loan refinance, the denominator is always the home’s appraised value.

Retail Sales measures total receipts at stores that sell tangible “things” and — aside from weak demand for automobiles and automobile parts — Retail Sales displayed surprising strength in April.

So much strength, in fact, that many experts are changing their predictions about the U.S. economy’s fate.

Several months ago, most pundits declared that a economic recession was all but inevitable. Today, a growing number are changing their views.

Not only are stock and credit markets improving, but data such as April’s Retail Sales figures suggest that their fears were overblown.

The takeaway from a story like this is that “experts” do a much better job of interpreting the past than predicting the future. A person can make an educated guess, but it’s impossible to know what the future holds for the economy, or for housing, or for mortgage rates.

Even when the outcome is “inevitable”.

Source
Recession? Not So Fast, Say Some
Kelly Evans And Justin Lahart
May 14, 2008, The Wall Street Journal Online
http://online.wsj.com/article/SB121068163716188223.html

When the everyday “Cost of Living” increases, our dollars don’t go as far as they used to. Economists call this inflation.

One popular method of measuring inflation is to track prices for 84,000 individual items and lump them together into a “basket”. If the overall price is higher, then the economy is experiencing inflation.

If a picture is worth a thousand words, this one from The New York Times is worth at least 84,000.

Broken down item-by-item, life is more expensive in some places you expected, and some places you didn’t. For example, over the past year:

• Gasoline: +26%
• Milk: +13.3%
• Children’s Shoes: +4.6%
• Pet Supplies: +6.8%

Inflation can be especially damaging to both active home buyers and homeowners looking to refinance because inflation is linked to high mortgage rates.

This is one reason why mortgage rates have fallen since the Federal Reserve’s hints last week that its rate-cutting cycle may be over; many believed that additional Fed Funds Rate cuts would stoke inflation later this year.

In the absence of inflation, mortgage rates tend to improve (all things equal).

Source
All of inflation’s little parts
Matthew Bloch, Shan Carter and Amanda Cox
The New York Times, May 3, 2008

According to the Bureau of Labor Statistics, the U.S. economy shed 20,000 jobs in April 2008. The labor force now counts at 146 million people as employed.

Normally, a loss of jobs would foretell economic weakness and would be a good thing for mortgage rate shoppers. Today, though, traders had been expecting a larger loss of 70,000 jobs.

In other words, today’s jobs report looks surprisingly strong.

The stock market is now rallying on optimism that “the worst is over” for the U.S. economy and evidence supporting the Federal Reserve’s remarks that its rate cuts were starting to take hold.

The stock market’s gains are the bond market’s losses.

Mortgage rates are up today because the cash that is fueling the stock market is coming from the sale of all types of bonds — including mortgage bonds.

This is unwelcome news for people doing mortgage comparisons today, or buying a home this weekend.

Rates should be higher Monday than they are today. In general, adjustable-rate mortgages are increasing more than fixed-rate mortgages.

(Image courtesy: Wall Street Journal Online)

The Fed lowered the Fed Funds Rate by a quarter-percent to 2.000% this afternoon.

Because it is tied to the Fed Funds Rate, Prime Rate also fell by a quarter-percent. Prime Rate is now 5.000%.

Holders of home equity lines of credit and credit card debt benefited from the change and will see lower interest costs in next month’s statements.

Mortgage rate shoppers are also benefitting.

Each time the Federal Reserve cuts the Fed Funds Rate, it’s meant to stimulate the economy in growth. Too much stimulation can create too much growth and that often leads to inflation (which causes mortgage rates to rise).

This is one reason why mortgage rates had not fallen over the past few months. Each Fed Funds Rate cut made it more likely that the economy would overheat in the second half of 2008.

So, because the Federal Reserve signaled that a rate-cutting “pause” may be ahead, investors are reducing expectations for a Fed-induced inflation cycle for later this year, pushing rates lower.

The FOMC’s next scheduled get-together is a two-day meeting June 24-25, 2008.

Source
Parsing the Fed Statement
The Wall Street Journal Online
April 30, 2008
https://online.wsj.com/internal/mdc/info-fedparse0804.html

The Federal Open Market Committee adjourns from its two-day meeting at 2:15 P.M. ET today.

Markets expect the Fed to lower the Fed Funds Rate by 0.250 percent in its press release but it’s not what the Fed does that matters to economy right now.

It’s what the Fed says.

If the Fed states that future rate cuts are needed to stabilize the economy, mortgage rates should rise because rate cuts tend to create inflation. Inflation is the enemy of mortgage rates.

By contrast, if the Fed states that it will “pause” before making additional rate cuts (or hikes), mortgage rates should fall.

We’ll dissect the message in full late this afternoon but the most important message to remember is this:

The Federal Reserve does not directly control mortgage rates.

The Fed only controls the Fed Funds Rate, the interest rate on a very specific type of loan made from one bank to another. The Fed Funds Rate, however, is directly related to a consumer-focused interest rate called Prime Rate.

Prime Rate is the basis of interest rates on credit cards and home equity lines of credit.

If the Federal Open Market Committee votes to lower the Fed Funds Rate by a quarter-percent, it means that the interest rate on Americans’ collective credit card and home equity line debt will fall by a quarter-percent, too.

In three weeks, the Federal Open Market Committee will meet again and markets anticipate another cut to the Fed Funds Rate.

Based on data compiled by the Federal Reserve Bank of Cleveland at the close of business yesterday, traders put the probabilities of the Fed’s next move at:

• 62 percent chance that the Fed Funds Rate falls to 2.000%
• 36 percent chance that the Fed Funds Rate falls to 1.750%

Currently, the Fed Funds Rate is 2.250%.

Cuts to the Fed Funds Rate are meant to stimulate the economy by lowering borrowing costs for banks, businesses, and consumers. When less money is spent on interest payments, more money is available for goods and services and that tends propels the economy forward.

And, because Prime Rate is tied to Fed Funds Rate, home equity lines of credit and credit cards grow “cheaper” when the FFR falls. That can makes financed home improvement projects a little less expensive.

Cuts to the Fed Funds Rate, however, do not equal cuts to mortgage rates - this is a pretty common misconception.

Mortgage rates are based on the price of mortgage bonds and — although it exerts an influence — the Federal Reserve does not set the prices for mortgage bonds any more than it sets the price for other investments such as stocks or mutual funds.

Since September 2007, the Federal Reserve has lowered the Fed Funds Rate by 3 percent. Over the same period of time, conforming mortgage rates have been mostly unchanged.

For the third month in a row, the economy shed jobs, suggesting that the U.S. is in a recession.

March’s monthly loss of 80,000 jobs is the largest since March 2003 and follows January and February’s losses of 76,000 each. The weak data is edging mortgage rates lower as we head into the weekend.

The connection between poor jobs data and today’s falling mortgage rates is a little bit strained, but worth discussing. It all comes down to expectations.

Prior to today, there was an expectation that the Federal Reserve’s recent rate cuts would over-ignite the economy sometime this Summer. The Fed has cut 3 percent from the benchmark rate since September 2007.

Meanwhile, consumer spending makes up two-thirds of the economy and people can’t spend if they don’t earn.

So, after today’s report showing fewer workers (and falling confidence levels to boot), the largest component of the economy is expected to sag for a while.

This lack of spending should offset the cumulative impact of the Fed’s rate cuts and lowers the expectation for runaway inflation later this year.

Now for the connection: If inflation causes mortgage rates to rise, it’s the absence of inflation that causes them to fall.

And that’s precisely what we’re seeing today.