Featured in REI-Inks Magazine
Spring is a home-buying season. However, the 2020 season had a false start. 2020 started with new and existing home sales at a 12-year high. In late February to early March, mortgage applications were up, and the market looked optimistic.
Then COVID-19 hit, and the U.S. sheltered in place. Open houses were canceled, and future homebuyers were suddenly unemployed. Homeowners who intended to list homes waited. Now homebuyers are proceeding with caution, easing into home searching, uncertain of the future. With any luck, the market will pick up this summer.
Short Housing Supply, Pent-up Demand
There is pent-up demand, and it is a seller’s market.
With the shift to digitally-enabled purchases and financing transactions, some homeowners rely on virtual searches, tours, and secure financing online. According to the Mortgage Bankers Association, purchase applications increased 18% year over year. It is going to be a short, hot summer for real estate.
Housing supply is constrained, and the pace of new construction is sluggish. The National Association of Builders/Wells Fargo Market Index (HMI), which measures confidence in the single-family market, was 37/100 in April, a five-year low. Housing statistics dropped to 30.2%, the lowest since 2015, according to the Commerce Department.
On a positive note, the S&P CoreLogic Case-Shiller National Home Price Index showed prices increasing by 4.4% in March, the highest annual growth since December 2018. Sales dropped 8.5%, according to the National Association of Realtors, for the same period. After working and schooling from home, buyers are starting to look for their first or next home. States are beginning to open up, and so is the housing market in parts of the country.
COVID-19 has wreaked havoc on the economy and instilled a level of fear in consumers and businesses. The CARES Act provides temporary relief, but expanded unemployment benefits expire July 31. An extension by Congress of this benefit, which adds $600 to standard weekly employment, may incent workers to stay out of the labor force. Unemployment declined to 13.3% or 21 million people at the end of May, down from 14.7% in April. Many economists believe it will continue to climb to historic levels. It will be difficult to track those who have finished collecting unemployment and do not find a new job, which is not counted in official unemployment statistics.
The actual unemployment rate is likely closer to 20%. The U.S. economy faces an uncertain and rough remainder of the year.
Historically low interest rates are a bright spot in the current environment. The 30-year fixed-rate dropped to 3.15% at the end of May, a 50-year low, according to the Freddie Mac Primary Mortgage Market Survey (PMMS). Rates ticked up by 0.03 to 3.18% in the PMMS rate survey reported on June 4.
Low rates and affordability will hopefully induce the lagging purchase market. The lack of inventory will be a challenge for home buyers, but signs show that the housing market is gaining momentum.
Currently, 50% of mortgage debt is at a rate higher than 4%, and 24% is above 4.5%, which will continue to fuel refinance activity. Borrowers with positive equity are obtaining home equity lines of credit instead of a cash-out refinancing. Government-backed mortgage products will continue to dominate the lending activity.
The housing market is a leading indicator of the country’s economic health, and real estate’s short, hot summer will contribute to the nation’s slow economic recovery, and likely extend until fall.
With lower borrowing costs for builders and homebuyers, purchases of durable consumer goods should rise and drive gross domestic product (GDP). Consumers may choose to buy and remodel, and builders will likely increase activity to meet demand in both single and multifamily markets.
The Federal Open Markets Committee meets June 9 and 10, and Jerome Powell is likely to leave the federal funds rate unchanged. The U.S. economy is still in crisis, and the Fed is unlikely to raise rates any time soon. Powell has a strong stance on negative interest rates, and the Fed will continue to employ other measures to push rates lower, such as quantitative easing (QE). The central bank is purchasing mortgage-backed securities, which is contributing to declining mortgage rates. Rates will remain at historic lows and may float lower due to monetary policy, investor confidence, and exogenous forces.
Non-qualified mortgage originators are adversely impacted by COVID-19, as holders of warehouse lines issued margin calls. Some lenders are waiting on the sidelines, holding off on lending, fearful of originating assets they cannot sell. The pandemic has negatively affected consumers of non-qualified mortgages, who are often business owners, self-employed or independent contractors.
Private-label mortgage-backed securities issuers will need to collaborate and align to provide relief to borrowers impacted by the pandemic. Despite all these challenges, several private-label residential mortgage-backed securities (RMBS) were issued between April and the publication of this article, indicating there is still an appetite for higher yield RMBS.
According to the Mortgage Bankers Association, from a single-family mortgage performance perspective, 4.2 million homeowners in May requested forbearance due to COVID-19, or 8.46% of all mortgages. On a positive note, data from Black Knight shows forbearances had the first decline since the beginning of the crisis. Whether this decline continues remains to be seen, as current political and social unrest will likely exacerbate economic conditions.
From a rental perspective, 12 million renters have stopped making payments, which influences the multifamily mortgage market. Renters have also expressed apprehension about renewing leases, due to uncertainty. According to Datex Property Solutions, 58.6% of commercial renters paid their rent in May, making a significant impact on the commercial mortgage market. Bankruptcies and closures of some major retailers will also continue to pull down the CMBS market.
Early in the crisis, HUD, Fannie Mae, and Freddie Mac provided guidance for consumers facing impacts and are continuing to refine homeownership preservation programs. Forbearance and repayment options after forbearance are being rolled out in rapid succession. Other debt markets, including credit cards and auto loans, which are not backed by the government, are offering relief to consumers impacted by the pandemic.
State of Other Consumer Loans
According to TransUnion, credit card borrowers requesting assistance is at 3.2% or 14.7 million accounts in April. Auto loans are at 7.5% forbearance for the same period, and JD Power expects used car prices to be suppressed 8% to 16% lower by the end of June. Auto lenders will have an issue with recovery value in the event of auto repossessions. The pandemic will have a long-term adverse effect on the asset-backed securities backed by cards, auto loans, student loans, and other obligations cash- strapped borrowers can no longer pay.
From a secondary market perspective, the mortgage origination market has a challenge. Lenders are reacting to potential forbearance and delinquency by tightening credit standards. The GSE’s, Fannie Mae and Freddie Mac, under the direction of the FHFA, will allow purchases of loans in forbearance.
However, these loans will be sold at a discount in the form of loan-level price adjustments or LLPAs.
For first-time homebuyer mortgages, the adjustment is a 500-basis-point LLPA, and a 700-basis- point LLPA on non-cash out refinances. The GSEs may purchase loans that have missed one payment. Originators who have underwritten to GSE standards, closed a mortgage transaction and now have borrowers in forbearance are stuck.
Having loans with impairments and selling at a negative yield spread is not how originators make money. Originators will either sell at a discount or retain mortgages in forbearance on the balance sheet in the hope pricing and performance improves in the future.
Housing and Urban Development (HUD) provided guidance on insuring mortgages placed on forbearance plans, which are underwritten to the Federal Housing Authority (FHA) guidelines. This will assist lenders in insuring loans and issuing Ginnie Mae pools of FHA loans. The Government National Mortgage Association or Ginnie Mae has offered the PTAP facility to issuers who need to finance advances due to mortgage-backed securities, where borrowers have not made the contractual payment.
Ginnie Mae issuance continues at historic levels, $63 billion for April, and the second-highest volume above $60 billion. The government-backed programs have quickly ensured that both market participants and borrowers have the tools and resources needed during the pandemic to support market liquidity.
The economic recovery from COVID-19 will not be rapid. The V-shaped recovery described by optimists is not likely. The recovery makes it look more like an L, with gradual shifts showing improvement, and may take a few years. Housing is a market driver and on an upward trend. The impact of mandatory government closures on small to large businesses is immeasurable at this time. As the economy starts to open, many furloughed employees may learn their jobs are gone. Unemployed consumers with credit cards, auto loans, student loans, and mortgage debt are facing a choice to pay. They need what credit can provide but do not have the ability to repay until they are back on their feet. Unemployment benefits will not cover most household needs and debt obligations. The impact of shelter in place, a sharp increase in unemployment and a decrease in consumer confidence has caused a slow start to the spring buying season.
The future is that real estate is going to have a short, hot summer. On the bright side, mortgage applications have increased for six consecutive weeks. However, increasing prices do create an affordability issue. Mortgage rates are incredibly low and allow buyers to qualify and purchase “more” than if rates were higher.
Digitally enabled consumers are starting their safe and virtual searches. The market will be challenging, as the supply of homes is short of demand, which reduces housing market potential. Refinancing is another bright spot, with employed consumers taking advantage of historically low rates. The housing market and our economic recovery are inextricably linked, and with any luck, rising temperatures and demand will heat up the housing market this summer.
About the Author
Amie McCarthy, Vice President
Amie McCarthy has more than two decades of experience in mortgage finance, structured products, and banking. She is a vice president with Nationwide Title Clearing, covering capital markets. McCarthy has worked from Wall Street to Washington, D.C., for investment banks, a GSE, and regulators.