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[The Contrarian] Low Mortgage Rates Are Keeping Credit Tight

August 16, 2011  |  by Jonathan Miller

Low mortgage rates are a key reason why the housing market and the economy remain anemic.

Has there ever been a better time to buy? Mortgage rates are at record lows and housing prices have fallen sharply in the past several years yet overall demand remains modest. Affordability remains near all-time highs so logic would suggest that we should be in a housing boom right now.

What’s happening?

Some say consumer confidence is to blame but I contend that’s a cart before the horse argument – confidence is merely a reflection of how credit and the economy are doing, not what is causing the current weakness or perhaps it becomes self-fulfilling.

Mortgage rates are too low

I’m not saying that mortgage rates should be high, but they should be allowed to float to their natural level. By the Fed keeping rates low until 2013, that’s 2 more years of restrictive mortgage lending.

I’ve provided more detail in another post but here is my key point:

Banks are faced with making this economic choice

1. Borrow from the Federal Reserve for free and then invest at low risk and make 4% at “AAA” (little) risk.

or

2. Lend money to Joe and Mary Homebuyer at 4% and face the perceived risk of layoffs, foreclosure, declining home prices, modifications, additional regulatory pressures, etc.

Banks are choosing “1”.

If they choose “2”, they will force Joe and Mary Homebuyer to be a “AAA” quality (more like “AAAA”) risk to match choice “1”.  As a result, fewer borrowers qualify for a mortgage than they would in a balanced credit environment and those who do are jumping through a significant number of hoops to qualify for their mortgage. In other words, lenders don’t really want to lend unless the loan quality is “AAAA.”

The result?

Low mortgage rates are actually damaging the housing market.

• Credit will very tight with no relief until the Fed stops keeping rates artifically low.
• Sales activity is kept in check by restricted mortgage lending.
• Lower sales activity keeps prices fragile.

The lesson to brokers to succeed in today’s housing market?  Place as much effort on confirming the qualifications of your buyer and the terms they can afford as you do finding the right home for them.

 

Posted in Jonathan Miller Insights

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13 responses to “[The Contrarian] Low Mortgage Rates Are Keeping Credit Tight”

  1. Amazing insight Johnathan, I of course realized that lending requirements are overly restrictive now. Are you saying taking option One from banks will ease lending restrictions? Are there only 2 choices for lenders?

  2. patrick says:

    The intrinsic cost of 2 is higher due to larger loan reserves required commensurate with future projected defaults in the housing market.

  3. Tom Martin says:

    Maybe this is a good time to start a new bank that only lends to prospective homebuyers.

  4. Rick Murdock says:

    The writers whole premise is mistaken in my view. The problem is a lack of confidence by the public. Too much naysaying and bickering. When lending rules were tighter in the past. (Remember everyone had 28/36 ratios and needed a paying job and good credit?) we have had times of robust sales. When talk radio and politicians start having a positive attitude, the public will get it. Unfortunately for buyers who are sitting on the sidelines, they will be paying higher interest rates.

  5. Paul Welch says:

    I think Johnathan makes a good point, but like most problems there isn't one cause or solution. Some of the other issues are that buyers see the national reports that express how weak the housing market is today, and fail to comment on the locations that are improving. Also the weak jobs market and high unemployment make people fearful of what the future holds for them. So with these 3 factors the home buying public feels that waiting to buy a home is in their best interest. Once 2 of the 3 improve we will see the housing market also improve.

  6. Mike Booz, ABR says:

    If buyers knew that the interest rates were going to rise, it would create a sense of urgency.

  7. Mike Carnahan says:

    I agree with Mike Booz. When the rates start to go up, people don't want to miss that last chance for a "good deal." I think the writer makes his point well. The lenders are able to pick and choose, so why choose someone without AAA credit.

  8. Denis says:

    Perhaps some of these banks were those same "AAA" lending institutions who happily sold those unrestricted loan programs (maybe part of the Credit Default Swaps) pitching the path to the American dream, then after their financial "melt-down", were bailed-out by the Feds under very favorable terms and super-low interest charges, without having to qualify & be credit-rated "AAAA" first. But, they turn around and will only do "AAA" loans. If they would do their due-diligence, and make the loans to the lesser rated borrowers, even at a higher interest rate of 8%, I'm sure the housing market would start to recover, and maybe the economy would be heading out of a recession. Did I say recession?

  9. I think this is partly true, the rates and subsequent lending guidelines are a problem, I know Laurence Yune had a video piece about this last week and NAR picked up an article from the LA Times saying that mortgage lending is at its lowest levels since 1997 and 2012 is projected to be lower. However the problem I fear is more systemic, lets pretend that the guidelines are more balanced AND rates stay where they are, this factor still will not change the fact that more then 1/4th of the nations home owners are under water with their current loan to value. The result is the "move up" market remains frozen, when you couple that with the levels of Bank Owned and Short Sale inventory the solution becomes a lot murkier.

    I think that until we ultimately let the market correct and absorb this high level of inventory at a price the market will pay, we are going to continue to list. Lending guidelines are a big part of it, but the distressed inventory levels are too.

  10. Nancy says:

    There are many, many folks out of work. There are folks who have taken jobs that barely pay the bills to just have a job. There are many self employed folks whose income has been drastically cut due to the economy and can't qualify to purchase. I can't be the only Realtor who sees this.

  11. carlos says:

    it is a50/50 problem
    Greedy bankers, Greedy Bankers,
    and buyers who are being misinformed by the media

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