At the start of each year, HSH.com details the important factors we think are most likely to influence the mortgage and real estate markets in the coming year. Halfway through the year we take a look back at our outlook and provide a mid-year update:
No. 1: Mortgage rates should firm somewhat
Mid-year update: Although the Federal Reserve did not make any move to short-term interest rates in the first half of the year, the expectation is that they will start to do so before too long. Mortgage rates did decline in the early part of 2015, dragged down by soft U.S. growth and a strong influx of global investor money. A pair of low spots for rates in February and April saw bottoms of 3.71 percent and 3.72 percent, respectively. Since then, conforming 30-year fixed mortgage rates have nudged up to a recent peak of 4.12 percent. Five-one hybrid ARMs have risen as high as 3.09 percent and have been as low as 2.89 percent, so our year-covering forecast remains in play at the moment.
Inflation still isn’t a problem, but the effect of falling energy prices is waning, and measures such as the Consumer Price Index have ticked higher as of late as a result. Also, recent labor market reports suggest that there is a little more wage growth than we’ve seen in a while, which in turn may allow inflation to waft a little higher over time. Falling energy costs didn’t goose the economy much; all indications are that consumers have banked the savings or used them to pay down debt.
While volatility could see mortgage rates drop, especially in the early part of 2015, any rate declines will likely be driven by forces outside of the U.S.
Absent any significant new global issues, we expect all mortgage rates to be mostly firmer in 2015, especially later in the year. There are several reasons why we expect mortgage rates to be mostly firmer:
- The Federal Reserve will likely begin to raise short-term interest rates mid-year, largely affecting initial interest rates for ARMs.
- A growing U.S. economy is likely to be joined by modest improvement overseas, as central banks there are starting to move toward greater use of QE-style programs to boost both economic growth and inflation. As these global efforts gain traction, this should slow to some degree the influx of investor cash into U.S.-based assets, a process that has served to keep mortgage and other interest rates holding at very low levels in 2014. A lessened flow of inbound cash would allow longer-term rates some space to rise, lifting yields and rates on fixed-rate mortgages.
- Inflation should not be a significant concern, but continuing growth here and perhaps less deflationary drag from abroad would also allow fixed rates to float upward somewhat.
From late-2014 levels, we might see a maximum peak for mortgage rates over the course of 2015 of maybe 4.75 percent for conforming 30-year fixed-rate mortgages; this would be comparable with peak-2014 levels. Depending on how aggressively the Fed begins to move short-term rates as the year progresses, ARMs may or may not move as much, but common 5/1 ARMs might see a peak of 3.5 percent or so.
As it pertains to the forecast for rates, one variable that is hard to fully assess is the impact of falling oil prices. Lower oil and gasoline costs will free up billions in spendable cash that will be more widely spread around the economy, rather than being locked up in far more narrowly-focused spending. Importers of petroleum will benefit from lower costs, while producers generally will not. In the U.S., falling prices act as a tax cut (or a raise) for consumers, and the push of more cash out into the economy will tend to lift growth somewhat. In turn, this could serve to complicate the Fed’s policy making; if lower oil prices persist, inflation may be initially lower but this could ultimately add to more price pressures for goods and services as demand for them is enhanced. However, just as the fall in prices came unexpectedly, it may be that the sharp decline proves more transient than not, and some rebound in prices from today’s levels is likely next year.
No. 2: Fed tries normalcy for a change
Mid-year update: The Fed is still in “abnormal” mode for the moment. Another economic stumble this winter put the kibosh on the Fed’s plans to start the normalization process for interest rates in June. Presently, it looks as though a September date for “liftoff” is in the cards, but the likely trajectory for interest-rate changes this year and beyond is much less steep now than it was when we began the year. Two quarter-point hikes in the Fed Funds rate are presently expected: one in September and one in December, which would leave us with a 0.625 percent rate by year’s end.
October 2014 saw a soft end to the Fed's direct involvement in manipulating long-term interest and mortgage rates. We say "soft end" because they stopped accumulating new Treasury Securities and Mortgage-Backed Securities in their portfolio, but will for a time continue to "recycle" inbound money from maturing bonds into new purchases as replacements. This will keep the amount of their holdings level while supporting the markets in a smaller and gentler fashion. The Fed expects to continue this process until it begins to lift rates. When this recycling process ends, it will be the first time since 2008 that the Fed isn't directly involved in manipulating long-term mortgage rates.
We do expect the Fed to begin to raise rates in 2015, but cautiously and in small steps, at least to start. The Fed would like to get interest rates somewhat closer to normal as soon as it realistically can so that it has some space to fight economic weakness without again resorting to unconventional tools such as QE.
At the moment, our best guess is that the Fed will begin liftoff with the June 16 to 17 meeting (possibly July 28 to 29); more clues will come from the next four or five Fed meetings to prepare the market for the change. It's a reasonable guess that by the end of 2015, the Federal Funds rate will have been lifted from a present 0 to 0.25 percent to 0.75 to 1 percent, lifting both the Prime Rate and some of the short-term interest rates which govern ARMs. Regardless, interest rates will remain well below "normal" throughout next year.
No. 3: New closing cost forms by August
Mid-year update: That punting sound you heard wasn’t Charlie Brown kicking the football (he never does), but rather the CFPB kicking the implementation of the combined Truth-in-Lending, Real Estate Settlement Procedures Act Integrated Disclosure rule (known in the industry as TRID) from August 1 to an October 3 starting date.
The change was blamed on an administrative error; the CFPB apparently missed a required filing deadline to comply with the original August 1 date. By law, the CFPB must allow Congress 60 days to review any published rule, but the CFPB didn’t file the proper paperwork until June 16; the regulator noted that complying with this 60 day rule would have pushed the implementation date back by a couple of weeks, conflicting with the start of the school year.
The reality is that interested lobbying groups had been pushing Congress and the CFPB for a delay and grace period on enforcement and penalties for non-compliance in order to make certain that software, training and compliance components were all ready to go. Earlier in June, this request for a grace period was essentially granted to lenders who are trying to comply with the rule in good faith. Then, without warning came this two-month delay for the implementation date, hopefully ensuring that more lenders will be ready when the new date comes. Regardless of the reason(s), new disclosure forms now won’t be seen everywhere until October.
Get an advanced look at the new forms here: http://www.hsh.com/finance/mortgage/ways-to-save-on-closing-costs.html
No Later than August 1, 2015, the new “Loan Estimate” and “Closing Disclosure” closing cost forms are coming to a lender near you.
As prescribed by Dodd-Frank and implemented by the Consumer Financial Protection Bureau (CFPB), mortgage seekers will find new (and hopefully less confusing) mortgage disclosures when they obtain a new mortgage. As of August 1, 2015, all lenders will need to have their systems in order to present the new Loan Estimate form when you "apply" for a mortgage. This new disclosure will combine and replace the Good Faith Estimate (GFE) of Closing Costs and the initial Truth-in-Lending (TIL) documents, and must be presented to a borrower when an "application" has been placed.
The definition of an "application" has changed a little, too. A lender will be required to issue you a Loan Estimate form as soon as the they have collected your name, income, social security number (to obtain a credit report), property address, estimated value of the home and the amount of the mortgage you want. For the purposes of providing you a disclosure, this is considered to be an "application" under the new rules.
When the mortgage is getting ready to close, the lender will provide you with a final Closing Disclosure form, which will replace the old HUD-1 Settlement Statement and the final TIL disclosure. This new form will be presented to you earlier, too -- you must have it to review three business days before the loan is to close.
The new Loan Estimate and Closing Disclosure documents will be coded so the consumer will be able to better match line items of fees quoted upfront versus those actually charged at the end of the process. Overall, it's hoped that the new forms will result in less confusion, but a cynic might say that this has generally been the goal for all previous revisions and updates, too.
Here’s an advance look at the new closing costs forms.
No. 4: Credit standards should ease
Mid-year update: The clarity in the buyback rules did prompt a few lenders to reduce their overlays, including Wells Fargo and Suntrust Bank, among others. That has helped improve access to credit a bit, as did the surprise re-introduction of the availability of loans with down payments as small as 3 percent from Fannie and Freddie earlier in the year.
While Loan-Level Risk-Based Pricing Adjustments remain unchanged (as does the AMDC and Guarantee Fees), there is still half a year for tweaks to be executed, so there’s still hope. With the changes already in place by the lenders and the GSEs, and with what seems to be some very gradual improvement in niche lending offerings (such as to borrowers with poor credit or other issues), a claim could be made that there has been some opening of the credit spigot so far this year. We may see a little more as we go along, especially if mortgage rates rise and competition for borrowers increases.
There were plenty of news stories, especially towards the end of 2014, about lenders getting ready to ease credit requirements for potential mortgage borrowers. The reason is that the FHFA finally provided greater clarity for lenders of the conditions of which they would be required to re-purchase a failed loan (aka "buybacks").
The actual details of the FHFA’s change are thick and incomprehensible to most humans, but the end result is that lenders are less likely to be penalized for minor and curable deficiencies in the loan file.
The net result is the lenders will be less afraid to write more mortgages for those at the lower end of the credit scale; coupled with improving housing market and economic conditions (which make defaults less likely, too), overlays are starting to be lowered or removed. With lenders evaluating their stances as we go, this is a process which should persist all year long.
Opening the credit box to a greater degree is likely to occur in other ways, too. Pressure is building to see reductions in risk-based pricing factors employed by Fannie and Freddie, including items such as the quarter-percentage point "Adverse Market" fee which has been in place since the early days of the crisis, reductions in so-called Guarantee Fees (costs incorporated into the rate of a mortgage sold to Fannie or Freddie) and even changes to the mortgage insurance costs for the FHA program (see below).
All in all, access to mortgage credit should improve throughout the year, and may become less costly, too.
No. 5: FHA: Back in black
Mid-year update: Although the FHA program is no longer operating in the red, it still isn’t back to the 2 percent capitalization requirements, and “executive action” earlier this year by President Obama ensured that the insurance fund won’t technically be solvent for at least a few more years.
This “kicking the can down the road” is the result of a lowering of the annual mortgage insurance premiums from 1.35 percent down to 0.85 percent for most borrowers. The rationale for doing so was that high insurance costs were a deterrent to certain borrowers; estimates provided at the time of the change suggests that it would lower costs by some $900 per year for a typical FHA mortgage holder.
It is true that this $75 per month would allow a given income to borrow more mortgage, it’s also true that insuring more and “riskier” loans without adequate coverage may see the taxpayer again on the hook for funds at some point. If nothing else, the change has prompted quite a bit of FHA-to-FHA refinancing by homeowners in order to capture the lower insurance rate. Interestingly, some portion of FHA loan holders opted out of the FHA and into conventional financing; with home values rising, the chance to cancel mortgage insurance in the near future arguably was the impetus for the change for some homeowners.
In the early days of the mortgage crisis, many, many risky borrowers were refinanced into the FHA program (remember the “FHA Secure Program”?). With an insurance pool of already higher-risk borrowers and unable to defend itself from accepting new risky borrowers at a time when “private” lenders stopped making such loans, the FHA accumulated too many loans that failed, wiping out the reserve position required by FHA's charter. The FHA did respond by ratcheting up mortgage insurance by about 125 percent over a few years' time, and even made mortgage insurance non-cancelable, but the damage was done. Undercapitalized, the FHA turned to Congress for backing in 2013 for the first time in its history and continued insuring new loans.
The FHA has traditionally served low- and moderate-income homebuyers, yet this audience may now be deterred from buying a home due to these cost increases. With the insurance fund again solvent, a push has been afoot by realtor groups and others to trim back these increased costs. In 2010, the annual mortgage insurance premium (MIP) for a loan was about 55 basis points (0.55 percent of the loan amount); in 2014, the same insurance cost 135 basis points. Higher insurance costs mean that a given income can only carry a smaller mortgage loan, so there may be some folks who cannot buy homes based upon what they can afford to borrow.
Although there is pressure, there is little likelihood that premiums will drop back to 2010 levels anytime soon. That said, the annual MIP was 110 basis points from April 2011 to April 2012, and if the FHA does bow to this political pressure, it's possible that a return to this level might occur, especially if losses continue to diminish and the economy continues to improve.
Although this change would likely lengthen the time needed to return to full solvency, the FHA could correctly claim it has made a meaningful change in insurance costs to help less-able homeowners.
No. 6: Will the Debt Forgiveness Act of 2007 be extended?
Mid-year update: Much to the delight of all involved, the Debt Forgiveness Act of 2007 was re-upped to cover the 2014 tax year. However, Congress failed to authorize any kind of long-term extension, so any mortgage modifications, short-sales or principal forgiveness a homeowner might have been able to secure in 2015 is presently subject to taxation. Odds favor we’ll be looking at this issue again when we write the 2016 Outlook in six months, but for now, the tax man is slated to return.
Time is running out for Congress to extend the Debt Forgiveness Act of 2007 -- or at least to do so with a minimum of stress and paperwork for homeowners.
Any short-sale or principal reduction received by a homeowner in 2014 will soon be treated as regular taxable income, with the amount of tax due based upon the homeowner's tax bracket and the amount forgiven.
RealtyTrac estimates that there were about 170,000 short sales in 2014, with about $8 billion in mortgage debt forgiven, and this doesn't count loan principal reductions common in private-loan modifications. A typical short sale saw a $75,000 "gift" from lender to homeowner, which would trigger an $18,750 penalty for someone in a 25 percent tax bracket.
Congress can certainly change these tax rules at any time, but waiting until filings for the 2014 tax year expire on April 15, 2015 -- or even to late January, when people begin receiving their W-2s and 1099s and start to file for the year -- would make a mess of things. For one, folks subject to the levy on this "income" would need to send it in when they file, or request extensions; should Congress subsequently make this retroactive, those "overpayments" of tax liability would probably require additional filings and months to sort out and return the funds to homeowners. Needing to come up with this cash in the first place might even imperil already strapped homeowners, too.
There are other impacts the lapse in renewal may be causing:
- The lack of a law in place may be serving to keep at least some folks trapped in homes they would rather move on from. With the taxman's axe hanging over their head, homeowners wanting to sell can price their home no less than what they owe on the mortgage (or a difference between selling price and amount owed of what they can reasonably cover out of pocket). This would tend to keep these homes off the market and make it harder for homebuyers, especially first-time homebuyers, to get a shot at them.
- The lack of proper tax treatment is also likely to be a deterrent to a homeowner accepting a principal reduction in a loan modification situation, as the "savings" from a lower balance won't be quite as beneficial if it comes with a huge tax bite. It's just silly to tax these transactions; there is no tax incurred for a modification which utilizes a reduction in interest charges, which can produce thousands of dollars of benefits, so why tax the principal relief?
Odds are good that the Debt Forgiveness Act will get pushed though, but at what time is uncertain. Sooner is better than later, and the act should be extended through 2016 and perhaps even 2017. With a little luck, the whole underwater or undervalued situation will have resolve d itself by then, at least for most homeowners.
No. 7: Home sales should increase
Mid-year update: So far, so good. For existing home sales, the trend has generally been upward through the first five months of the year (June data won’t be available until late July). January and February were relatively dull months, but by May, existing home sales reached 5.35 million (annualized), the fastest monthly rate since 2009. Also, the composition of buyers is changing; some 32 percent of homebuyers in May were first-time buyers, a figure some 5 percentage points higher than the same period a year ago.
Sales of new homes remain below historical norms, but are on a mild upswing. May’s sales pace was some 19.5 percent above year-ago levels as 546,000 (annualized) units were sold, the best pace since February 2008. Supported by improving labor markets and better borrower alignment with mortgage underwriting standards (and even a little expansion of credit availability, as noted above), the prospects for total home sales this year may exceed our initial modest expectations.
Home sales should benefit from improving conditions again in 2015. Another year past the recession means millions more folks with jobs, plus another year to get savings, credit and documentation in line with mortgage underwriting standards. The mortgage underwriting pendulum is starting to swing from tight levels to somewhat less tight ones, and this "expanding of the credit box" should allow a few more folks the chance to buy homes. Perhaps as important is that much of the required rulemaking for mortgages under Dodd-Frank is now complete, allowing the market for non-Qualified Mortgages (non-QM) loans to finally begin to form. This could mean better and cheaper borrowing opportunities for self-employed borrowers, those who are carrying high amounts of debt and other niches.
Home sales have been more or less steadily moving to a higher pace throughout 2014. The annual rate of existing home sales has climbed over 5 million during the past five months, and is generally in an upward pattern. Sales of new homes have been more erratic this year, but the last few months point to a solidifying sales picture, and optimistic builder outlooks suggest a continuation of this trend in 2015. Given available information, it would seem that about a total of 4.5 million new and existing homes were sold in 2014; with still favorable mortgage rates in place, a slightly wider credit box and other factors, it seems reasonable to us to expect perhaps a 7 percent rise in total sales next year, leaving us at about 4.8 million or so total home sales for the year.
No. 8: Home-price gains held in check
Mid-year update: Compared to 2013, price gains had cooled off a little in 2014, and we expected to see a level trend for much of this year. So far, only January was close to that mark, as thin inventory levels and improving demand have again fostered faster price gains averaging closer to 8 percent during the last few months.
Somewhat firmer mortgage rates in the market now may trim the sails here a bit as we move deeper into the year, but demand and supply dynamics seem likely to keep on the accelerator rather more than we expected when we turned the year. This is both good and bad news; good, in that homeowners in underwater or low-equity positions will see those issues cured more quickly; bad, in that the crimp in affordability from firmer rates and higher prices pushes more marginal buyers out of the marketplace.
It's always hard to get a clear picture of what's happening with home prices. The different available reports (CoreLogic, Case-Shiller, etc.) all seem to measure different things, and they don't really tell you about the value of a given piece of real estate or even a given market, as they can only measure homes which have actually sold in a given period. The problem is that the mix of homes sold in one month is obviously different then the next, and this of course depends upon what homes come up for sale in the market and other unpredictable factors, and these factors can provide false signals. That's not a quibble with the analytics themselves, but only to say that it’s hard to know what's happening with any precision.
We last saw a month-over-month double-digit increase in existing-home prices in January 2014, and at times have run a year-over-year rate of less than half of that since. That's both good and bad news; good, in that smaller increases make it somewhat more likely for meager income growth and savings to try to keep pace, and bad, in that the process of fully repairing the underwater mortgage problem will take somewhat longer.
Over the last few years, price increases (aka inflation) were of course fostered by low interest rates. However, prices cannot forever outstrip incomes and general inflation, as affordability becomes impinged. Should income growth remain muted, and if mortgage rates are somewhat higher in 2015 than in 2014, home prices probably cannot increase at even the same pace as they did in 2014.
Although we expect that existing-home prices will be supported by firm demand, they will probably average something below a 5 percent year-over-year gain for 2015.
No. 9: Home equity borrowing should continue to increase
Mid-year update: According to recently updated reports by Equifax, banks are originating home equity loans and lines of credit in 2015 at the fastest pace in seven years. In January, the latest month of data available from the credit-reporting firm, lenders originated $9.5 billion of home equity lines of credit, an increase of 27 percent over the same period in 2014. With home prices still climbing fairly quickly, expect more consumers to consider borrowing their equity.
They may find some more willing lenders, too. In early June, the U.S. Supreme Court ruled that a second lien can’t be “stripped” from a homeowner’s debt in a Chapter 7 bankruptcy proceeding, even if the home is underwater, which would render the lien valueless in today’s climate. The court sided on behalf of Bank of America, which argued that rising home prices would eventually produce the equity needed to repay the debt, so cancellation of it was unwarranted. With a chance to recover more funds thought to be lost in the home price crash, this decision raises the possibility that more lenders may become more willing to consider making new loans and lines as we move forward.
Over the past year, borrowing of home equity has kicked higher; estimates by Equifax suggest a 21 percent rise in borrowing on home equity lines of credit in the first half of 2014. With home prices expected to still be rising, more homeowners will get the chance to use some of their home equity. Rising prices and the advent of shorter-term refinances are both contributing to deepened equity stakes to the point where more homeowners have at least some borrowable equity (lenders generally won't allow a homeowner to leverage beyond about 80 percent of the value of the home, including the balance of any first mortgage).
We expect to continue to see considerable increases in equity use in 2015. Equity usage remains low compared to the boom years of the mid-2000s, so there remains plenty of upside for growth, and it wouldn't be a surprise to see another double-digit increase for 2015.
The real estate downturn and uncertain times of the recession arguably saw at least some deferment in both home maintenance and improvement projects, so that should account for a fair chunk of any increase, followed by other traditional uses such as debt consolidation/repayment, education costs, auto purchases and other common uses.