FHA reforms could derail the real estate recovery
December 13, 2009 by admin
Why the government is dropping the ball as they plan alter lending guidelines, further challenging the real estate and mortgage markets. The phrase, “you got us into this mess, know get us out of it†is something that the government is straddling the fence on. The dramatic decline in the real estate industry can be credited to a number of failures in the checks and balance system that should have been in place safeguarding the mortgage and finance industry. On every level, the government failed to properly regulate the process, and the end result led to one of the worst financial catastrophes and recessions in the past fifty years.
From the consumer level, the creation of “liar loans†were simply to hard to pass up. Purchasing homes with zero down with debt to income ratios often exceeding fifty percent were commonplace for a number of years in the mortgage markets. Consumers were financing the entire transaction, including all of the closing fees as lenders became more creative in finding loan programs to further lower house payments, ultimately driving the demand cycle higher and pushing home prices up sharply across the country. The economics of supply/demand left few investments with a better return than real estate for a better part of the last decade. Home owners grew accustomed to annual appreciation gains of ten percent a year or better, often refinancing their mortgages to pull this equity back out and reinvest in the economy, further spiraling the growth of the market and consumer goods industry.
The cycle seemed almost too good to be true as lenders lined up by the dozen to create new loan programs more creative than aggressive furniture deals where consumers are not required to make payments for months at a time. All along the industry was relying on the appreciation factor to hedge their risk bets and capitalize on the quick bucks. The secondary mortgage market, where the original loans were bought and bundled to be resold to investors and equity firms, jumped on the real estate bandwagon extremely hard. These lenders often borrowed money to further invest in the mortgage market, drinking the too good to be true cool aid and adding more fuel to the fire, all the while regulatory oversight from the government was asleep at the switch.
The end result was a major collapse that has caught everyone from Main Street to Wall Street in the cross hairs. The collapse of the finance markets, brought on major financial commitments by the government to stabilize the real estate and mortgage markets. Through subsidization of the mortgage backed security market, home loan rates have been at or below fiver percent for almost the entire year. Tax incentives aimed at bring first time buyers back into the market have been a key catalyst that the real estate industry is touting aided over 300,000 buyers to purchase this year alone. The real estate market is like every other commodity market in the world. Home prices are a direct reflection of the supply versus demand equation. As more buyers become eligible with attractive financing alternatives, inventory is eliminated helping to stabilize prices. Sounds like a plan to fix the markets and help bring an end to the economic recession of the past two years is finally working, especially when you consider the market has reported better than expected home sales for five out of the last six months. The largest trade organization was successful in lobbying the government for an addition six months of tax credits for both first time buyers and move up buyers. You might assume that the real estate market is poised for a major rebound in 2010 with all of the parts working in sync to help reduce inventory, stabilize prices and provide some certainty to Main Street. But the latest news from the Governments largest financing entity FHA a division of HUD should be sending shock waves to the economy and real estate markets.
FHA loans have picked up market share at an unprecedented clip over the last twelve months. The mortgages are the loan of choice for first time buyers as they provide an opportunity to finance with minimal down. The loan guidelines have been consistent for the better part of the last ten years and FHA has never offered a stated income or liar loan program. Unfortunately, FHA mortgages have fallen victim to the plight of the real estate industry in that home foreclosures have skyrocketed upward. HUD is scrambling to find ways to stabilize the agency and has announced underwriting guideline changes that at first glance would make sense. A common reaction to struggling loan portfolios is to say the future loans need tougher guidelines, this theory could not be further from the truth on FHA loans. Its fair to say that FHA loans have performed much better than mortgages where the borrowers simply created their own job title, salary and bank information. FHA has traditionally always been a process that requires full documentation underwriting as well as stringent appraisal standards. The current loan performance is a reflection of the real estate market collapse, brought on by the failed liar loans, and the residual impact this has had on driving the national unemployment rate well past ten percent. The short sighted decision by the government to make FHA mortgage loans harder to obtain simply eliminates more buyers (simple economics) which further distances the market from recovery. The real estate market is setting itself up for a huge decline in the second half of 2010. Without the government tax incentives, FOMC commitment to subsidizing interest rates and now even more challenging underwriting guidelines, there appears little hope that the economic recovery will sustain. The government should be focusing on strengthening FHA role to help ease the transition of tax rebates and rate subsidizes, helping to support the demand equation.