Using a Standby Reverse as an Inflation Hedge
After several years of artificially low interest rates the Federal Reserve is beginning to raise interest rates – incrementally albeit. With home values still modestly appreciating across the country and interest rates beginning to rise, is now the window of opportunity for homeowners to hedge against inflation?
The Fed may tighten the money supply as fears of inflation begin to rise. In the wake of the Great Recession, many feared that prices for good would fall. However, that fear may be put to rest and replaced with another – inflation. A recent CNBC article states that a .6% jump in the Consumer Price Index (CPI) in January, pushed the annual inflation rate to a five-year high of 2.5 percent.
Rising prices will put more pressure on older homeowners on a fixed income as the cost of goods and services increase. Rising interest rates will increase the cost of borrowing and also reduce the cash benefit that reverse mortgage borrowers can obtain. In this uncertain economic landscape some homeowners could benefit by leveraging a HECM line of credit as a hedge against inflation, states a recent article in the Wall Street Journal. Older homeowners may want to revisit the ‘wait and see’ approach to getting a reverse mortgage, and rather choose to secure the loan at a younger age.
2 Comments
Of course its a good idea. But like so many good ideas it seems there are those who would like to strike the HECM standby strategy down as well. The HECM SS was using the Saver option which was eliminated, another blunder. Many CPA’s financial planners etc loved the product because of its lower upfront MIP rate and more conservative PL factoring. This was also eliminated. When will this product be left alone to be appeal to more borrowers is my main bone of contention here.
A reverse mortgage is NOT a hedge against inflation. Google correctly describes a hedge against inflation as: “An inflation hedge is an investment with intrinsic value such as oil, natural gas, gold, farmland, and to a lesser degree commercial real estate. Typically most hard assets are an excellent inflation hedge. In general, commodities/hard assets are negatively correlated to both stocks and bonds.”
A reverse mortgage is not an asset. Home equity is not an asset since its value can be negative. A home is an asset.
What a HECM is is debt. It can be a source of cash throughout retirement but that cash comes at a cost. If the value of gold owned by a senior grows, there is no cost to that growth.
The rise in the line of credit does not belong to the borrower. It belongs to the lender UNTIL the borrower borrows that cash. As the ultimate test of who owns the line of credit, it cannot be passed to heirs at death.
Mr. Kalscheur correctly points to the upfront part of the cost of a line of credit but when financed there is an ongoing cost as well. If the upfront costs are $10,000, the ongoing cost at the end of the first year with an annually adjusting rate HECM of at an initial rate of 5% is $650. If the interest rate grows, so will the annual cost of the line of credit.
So what happens to the line of credit at the end of 20 years, if the senior is away from the home for more than six months in that calendar year? It terminates with no benefit to the borrower.
Unlike assets that actually hedge against inflation, HECM lines of credit grow by a formula that can never be negative except for HECMs with servicing fee set asides that had case numbers assigned in prior years.