Give thanks if you qualify for record low mortgage rates

Bernanke: Tight lending standards and shadow inventory muting housing sector's contribution to recovery

Would-be homebuyers and homeowners looking to refinance can give thanks as mortgage rates set new lows this week, although many borrowers with less than perfect credit won’t be able to take advantage of the savings that low rates afford.

Rates on 30-year fixed-rate mortgages averaged 3.31 percent with an average 0.7 point for the week ending Nov. 21, down from 3.34 percent last week and 3.98 percent a year ago, according to the results of Freddie Mac’s weekly Primary Mortgage Market Survey. That’s a new low in Freddie Mac records dating to 1971.

For 15-year fixed-rate loans, rates averaged 2.63 percent with an average 0.7 point, down 2.65 percent last week and 3.3 percent a year ago. That’s also a new record in Freddie Mac records dating to 1991.

Five-year Treasury-indexed hybrid adjustable-rate mortgage (ARM) loans averaged 2.74 percent with an average 0.6 point, unchanged from last week but down from 2.91 percent a year ago. Rates on five-year ARM loans hit a low in records dating to 2005 of 2.69 percent during the week ending July 19.

Rates on one-year Treasury-indexed ARM loans averaged 2.56 percent with an average 0.5 point, up from 2.55 percent last week but down from 2.79 percent a year ago. Rates on one-year ARM loans hit a low in records dating to 1984 of 2.55 percent last week.

Looking back a week, a separate survey by the Mortgage Bankers Association showed applications for purchase loans during the week ending Nov. 16 down a seasonally adjusted 3 percent compared to the week before, and off 6 percent from a year ago.

Tight lending standards and large inventories of vacant and foreclosed homes continue to act as a drag on the U.S. economic recovery, which remains vulnerable to risks posed by the European debt crisis and the U.S. government’s "fiscal cliff," Federal Reserve Chairman Ben Bernanke warned in two recent speeches.

Minority, lower-income communities hardest hit

Delivering the keynote address at the HOPE Global Financial Dignity Summit in Atlanta last week, Bernanke focused on developments in housing and housing finance, which he said remain a critical challenge for policymakers, lenders and community leaders.

Encouraging signs of improvement include nine consecutive months of national home price gains, and a growing demand for homes underpinned by record levels of affordability, thanks to low mortgage rates and home prices that are still 30 percent or more below peak in many areas.

But 1 in 5 homeowners with mortgages is "underwater," and 7 percent of all mortgages are more than 90 days overdue or in foreclosure. The number of homes in foreclosure has edged down from 2010 peaks, Bernanke noted, but there are still more than 2 million homes in the foreclosure process — three times the historical norm.

The national homeownership rate is at a 15-year low, having slipped nearly 4 percentage points from a 2004 high of 69 percent.

Lower-income and minority communities have been hit disproportionately by the effects of the housing bust, Bernanke said, and "most or all of the hard-won gains in homeownership made by low-income and minority communities in the past 15 years or so have been reversed."

The homeownership rate fell about 5 percentage points for African Americans, for example, compared with about 2 percentage points for other groups.

Tight lending standards 

Homeownership rates have declined not only because of foreclosures, but because of the difficulty of obtaining credit. Lenders approved half as many first-lien purchase mortgages in 2011 as they did in 2006, with purchase loan approvals falling to the lowest level since 1995.

The contraction in mortgage lending has been particularly severe for minority groups and those with lower incomes, Bernanke said. Purchase loans to African-Americans and Hispanics have fallen more than 65 percent since 2006, compared with 50 percent for non-Hispanic whites. Home purchase originations in lower-income neighborhoods have fallen about 75 percent, compared with around 50 percent for middle- and upper-income neighborhoods.

While some of the contraction in mortgage lending is due to economic factors like higher unemployment, tighter lending standards remain an important factor. Federal Reserve surveys of loan officers show lenders "began tightening mortgage credit standards in 2007 and have not significantly eased standards since," Bernanke said.

According to mortgage origination software developer Ellie Mae, borrowers approved for conventional purchase loans (those eligible for purchase or guarantee by Fannie Mae and Freddie Mac) in October had an average FICO score of 762. The average FICO score for purchase mortgages insured by the Federal Housing Administration was 700.

FICO scores range from 300 to 850, and 78.5 percent of all consumers have scores between 300 and 749. So only about 1 in 5 consumers has a FICO score that’s equal to the average FICO score of borrowers closing on Fannie and Freddie loans last month.

The FHA, facing the prospect of the first taxpayer bailout in its 78-year history, will raise annual insurance premiums next year, and revoke new borrowers’ ability to cancel their premiums once the balance owed on their mortgage falls below the 78 percent loan-to-value level.

The impact of those and other measures will be muted by the fact that FHA is resisting calls to boost its 3.5 percent minimum down payment levels to 5 percent, and will maintain existing underwriting standards for key items like debt-to-income ratios.

In April, Bernanke said, nearly 60 percent of lenders said compared to 2006, they would be much less likely to approve a mortgage to a borrower with a 10 percent down payment and a credit score of 620. The share of purchase mortgages approved for borrowers with credit scores below 620 — a group sometimes classified as "subprime" — has fallen from about 17 percent of borrowers at the end of 2006 to about 5 percent more recently.

"Certainly, some tightening of credit standards was an appropriate response to the lax lending conditions that prevailed in the years leading up to the peak in house prices," Bernanke said. "Mortgage loans that were poorly underwritten or inappropriate for the borrower’s circumstances ultimately had devastating consequences for many families and communities, as well as for the financial institutions themselves and the broader economy."

But the Fed chairman said it now seems likely "that the pendulum has swung too far the other way, and that overly tight lending standards may now be preventing creditworthy borrowers from buying homes, thereby slowing the revival in housing and impeding the economic recovery."

Lenders surveyed by the Federal Reserve say they’ve cut back on lending because of worries about the economy, the outlook for home prices, existing exposure to real estate loans, increases in loan servicing costs, and "putback risk" — the risk that mortgage guarantors Fannie Mae and Freddie Mac will force them to repurchase delinquent loans.

Fannie and Freddie’s regulator, the Federal Housing Finance Agency, recently announced new rules that Bernanke said will provide lenders greater clarity about the conditions under which they will be required to buy back defaulted mortgages.

"This greater clarity may result in reduced concern about putback risk, which in turn should increase the willingness of lenders to make new loans," Bernanke said.

FHFA has also initiated a pilot "REO to rental" program in which qualified investors are allowed to buy foreclosed Fannie Mae properties in bulk and rent them out.

Realtor associations have opposed bulk sales in some markets they say are already facing inventory shortages.

"For our part, the Federal Reserve is encouraging the institutions we supervise to manage their inventories of foreclosed homes in ways that do not exacerbate problems in local neighborhoods, including renting them out, where appropriate, rather than leaving the properties vacant," Bernanke said.

Headwinds to growth

Addressing members of the New York Economic Club on Tuesday, Bernanke acknowledged "the disappointingly slow pace of economic recovery," and said the prospects for stronger growth remain uncertain.

Headwinds include the housing sector, which typically leads the nation out of recessions. That hasn’t happened this time, because "a substantial overhang" of vacant properties and homes in the foreclosure pipeline "continues to hold down house prices and reduce the need for new construction."

Another "prominent risk" to the U.S. economy is uncertainty about how the European debt crisis will be resolved, with weaker economic conditions in Europe and other parts of the world weighing on U.S. exports and corporate earnings.

Finally, the looming "fiscal cliff" — automatic tax increases and spending cuts scheduled to take place next year if Congress can’t reach a deal to increase the federal government’s debt limit — has already created uncertainty that appears to be affecting spending and investment.

The threat of default in the summer of 2011 "fueled economic uncertainty and badly damaged confidence, even though an agreement ultimately was reached," Bernanke warned. "A failure to reach a timely agreement this time around could impose even heavier economic and financial costs."

Although the federal budget deficit is clearly "on an unsustainable path," tackling it will be much easier if lawmakers are able to prevent "a sudden and severe contraction in fiscal policy" early next year. A deal that averts a fiscal cliff while addressing long-term budget issues "will support the transition of the economy back to full employment; a stronger economy will in turn reduce the deficit and contribute to achieving long-term fiscal sustainability."

While critics worry that the Federal Reserve’s monetary policy has set the stage for runaway inflation once a recovery takes hold, Bernanke thinks a credible plan to put the federal budget on a sustainable path "could help keep longer-term interest rates low and boost household and business confidence, thereby supporting economic growth today."

To lower the cost of borrowing in hopes of stimulating economic growth, in 2008 the Federal Reserve initiated the first of three rounds of "quantitative easing." Before winding down in 2010, the first round of quantitative easing included the purchase of $1.25 trillion in Fannie and Freddie MBS and debt, which helped push mortgage rates below 5 percent.

A third round of quantitative easing ("QE3") announced by the Fed on Sept. 13 boosted its MBS purchases by $40 billion a month.

"Our purchases of MBS, by bringing down mortgage rates, provide support directly to housing and thereby help mitigate some of the headwinds facing that sector," Bernanke said. "In announcing this decision, we also indicated that we would continue purchasing MBS, undertake additional purchases of longer-term securities, and employ our other policy tools until we judge that the outlook for the labor market has improved substantially in a context of price stability."

With the modest pace of job growth so far, economists at Fannie Mae are projecting that the Fed’s open-ended MBS purchases could last through all of 2013 and perhaps into 2014, helping keep a lid on rates.


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