As inflation rages through the American economy another economic outcome is likely to hit the U.S. housing market. Not a crash like the one that rocked world financial markets in 2008, but rather a deflation of home values.
Inflation is nibbling away at the edges of everything. Discretionary dollars, menu choices, transportation plans, and the decision whether or not to purchase a home. With the cost of daily essentials surging Americans find themselves questioning whether or not now it the best time to make what’s likely to be their largest financial commitment- purchasing a home. Why shouldn’t they?
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Uncertainty engenders a sense of caution and hesitation. The Federal Reserve’s tightening of monetary policy has driven up mortgage rates.
Fortune.com reports Black Knight data reveals today’s current mortgage rate levels, the typical American household would have to spend 29% of its monthly income to make a mortgage payment on the average-priced U.S. home. That’s a mortgage payment to income ratio that’s ten percentage points higher than it was just a decade ago when the average American’s mortgage only accounted for 19% of monthly income. The Feds sustained low interest rates also helped fuel surging home values and the subsequent mortgage payment to income ratio jumped from 24 to 29% in December 2021.
Consequently, what we’re likely to see is not a crash in housing values but rather a softening…of home price appreciation, and modest declines in specific overheated markets. This bodes well for both future reverse mortgage applicants and existing borrowers alike. Those seeking to get a reverse mortgage will certainly see a smaller net benefit thanks to a higher interest rate. That’s preferable to a one-two punch of higher interest rates coupled with a crash in home values.
The primary benefit for borrowers with an adjustable-rate they will see their line of credit grow more quickly thanks to that available credit growth being keyed to the current month’s interest rate plus the ongoing one-half percent FHA mortgage insurance premium.
Here’s one example. Mimi got her reverse mortgage two years ago and has $150,000 available in her line of credit or available principle limit. In the last year, her average line of credit growth has averaged 4.35% plus one-half percent which accounts for the FHA mortgage insurance premium paid. Assuming she has not made additional withdrawals her line of credit grew by $6,525 increasing her borrowing power to $156,000+. If her average growth rate in 2022 was 6.4% her new available credit would be approximately $166,500. Keep in mind while rising rates potentially increase the available funds in a HECM’s line of credit, they also accelerate the loan balance and consequently reduce the potential remaining home equity when the loan is terminated.
All things considered, If inflation were a person they would likely be the reverse mortgage salesperson of the year. While the cost of food, energy, and transportation is likely to continue to surge, the irrational pace of home price appreciation may be coming to an end.- and that may be Federal Reserve’s first bonafide victory in the war against inflation.
Resources:
Fortune::The economic shock hitting the housing market is starting to do some damage
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2 Comments
Shannon spoke of the benefit to an existing HECM LOC from higher interest rates but the same is not true for PRMs (proprietary reverse mortgages). Adjustable rate PRMs originated in the last five years generally have a modest cap on their LOC growth rates of less than 2% with a limited period for such growth meaning that today’s rising mortgage interest rate indices have NO impact on the LOC of a PRM.
But what about the impact on the UPB of an existing adjustable rate RM? In most cases, the UPB will grow faster than anticipated by the borrower meaning that generally the typical RM borrower will have more debt in her estate than anticipated and if home appreciation rates soften to a rate lower than the borrower anticipated, the consumer could start losing confidence in her decision to get an adjustable rate RM, especially if the borrower wanted to leave a substantial estate to heir but the net value of her estate was highly dependent on housing wealth.
As to the prospects for a RM Refi in the future, rising interest rate indices are generally not helpful to an adjustable rate RM borrower nor are slowing (decelerating) home appreciation rates even when caused by rising mortgage interest rates. After the mortgage bust starting in 2006, many RM borrowers were lamenting (or far worse) to their RM originators about their prospects of refinancing their RMs in the future in light of negative home appreciation rates. I knew several RM originators who left the industry due to lower RM origination volume and having to endure somewhat abusive lamenting by these borrowers.
Since there is little that can be done to slow done the increasing mortgage interest rates nor to deter those leading our nation from fueling fiscal policy that accelerates rising mortgage interest rates (as so well pointed out by Dr. Larry Summers, President Clinton’s Secretary of the Treasury) all we can do is keep doing what we are doing in the face of the anticipated loss in both HECM Refis and first time borrowers.
(As to the use of the term “portfolio” RM instead of proprietary RM, the pre existing use of the term “portfolio RM” describes the fact that an RM will be held by its owner in the owner’s portfolio of mortgage assets rather than being sold to an investor. The recommended use of the term portfolio RM to describe a PRM only shows the lack of knowledge of the mortgage industry by those who encouraged its use and how this industry only adds to the confusion of what a PRM really is. We in the RM industry normally condemn the use of terminology that confuses but apparently some in this industry who knowingly recommend the use of the term portfolio RM for the sake of clarity are being less than 1) candid or 2) accurate….)
[…] record high prices, and finally deflation. It’s a long-established pattern. Here’s an April episode of The Industry Leader Update where I discussed where we can expect […]