A Blog Pertaining to the Acquisition of a Mortgage to Purchase a Domicile

Fannie, Freddie, and you — a Q&A session

clayjeffreys — Thu, 17 Jul 2008 12:02:01 +0000

The headlines are hard to miss… “Stock Prices Fall for Fannie Mae and Freddie Mac,” “Freddie Mac is under Attack,” “Fannie and Freddie’s Extreme Makeover,” … big question, what does this mean for you? Let’s take a look at the who, what, when, where, and why of these two institutions.

What are Fannie Mae and Freddie Mac? – Fannie Mae was created by the US government as part of the New Deal during the Great Depression to provide liquidity for the mortgage market. Freddie Mac, which does the same thing, came about in the 70s.

What do they do? – Fannie and Freddie buy loans from banks. This creates liquidity for banks that is used to originate more loans. This in turn keeps the lending world running smoothly, making it easier for people to buy homes.

What type of loans do they buy? Fannie and Freddie set the guidelines for conforming (prime) loans. These are loans in which the borrower’s credit is reviewed, income verified through pay stubs and/or tax returns, and assets verified through financial statements. These loans do not include the negative amortization, exotic interest-only ARMs, MTA loans, etc. that have plagued the lending and housing markets.

Should we blame Fannie and Freddie for the mess we are in? There is no real answer to this one. “No” because most of the problems being experienced now were the result of no-doc loans, MTA loans, etc. defaulting in large numbers. “Yes” because there is plenty of blame and finger pointing to go around. Even Fannie and Freddie’s guidelines were more lenient a few years ago than they are today, and perhaps 100% financing for any loan program isn’t the best idea in the world.

Why are their stock prices falling? The market is reacting dramatically to any news, and sometimes reactions don’t make a lot of sense. When the public hears news of subprime loans defaulting and banks going out of business or losing literally billions of dollars, the reaction is negative even toward entities that only invest in good, credible loans.

What could happen if Fannie and Freddie failed? The failure of Fannie and Freddie would be disastrous for the lending world, housing market, and the US and World economy. This is why the government plans to support both Fannie and Freddie to prevent them from collapsing.

A quick scenario might look something like this: Fannie and Freddie can no longer buy loans from banks… banks begin to run out of money to lend… it becomes harder for people (even well qualified borrowers) to buy homes… the housing market suffers even more… the housing slump continues its drag on the US economy… when the US economy suffers, so does world’s economy.

How would this directly affect you? Unless you are in the market to buy a home, it wouldn’t directly impact you. BUT the ripples of the collapse would be felt in the economy. A slow economy means less spending and investing… the demand for good and services is down, which results in layoffs and/or a decrease in income… people with reduced or no income are not out spending and investing… the cycle reverberates like feedback in a microphone.

Bottom line:

– Fannie and Freddie are essential to the lending and housing markets by purchasing conventional loans from banks to keep the markets running smoothly.

– Fannie and Freddie may be struggling, but it is not for the same reasons IndyMac and HomeBanc failed — the result of issuing bad loans.

– Some people may not like the government supporting Fannie and Freddie, but if they were to collapse, things would get a lot worse than they are now.

Clay Jeffreys is a Mortgage Consultant with Hillside Lending, LLC and writer for “Blog Pertaining to the Acquisition of a Mortgage to Purchase a Domicile.” Hillside Lending seeks to provide mortgage brokerage services with the highest standards of service, care, honesty, integrity and value; concentrating on owner-occupied, residential financing. For more information about available programs and interest rates, please visit www.hillsidelending.com.

Déjà Vu – haven’t we been here before?

clayjeffreys — Tue, 15 Jul 2008 17:45:29 +0000

In the words of Neo, “Woah!”

It’s January 2008, and the Federal Reserve finds itself in the precarious position of being between a rock and a hard place. The Feds need to decide between helping to spur the economy through continued cuts to the Federal Funds Rate versus a potential increase in inflation due to those rate cuts.

Fast forward to July 15, 2008 where the Federal Reserve finds itself (once again) in an unenviable position. The concerns over inflation have been met. The series of rate cuts designed to help stimulate the economy are now hampering it as the Dollar loses value, oil prices are at record levels, energy costs rise, and the cost of food is increasing as well. The year-over-year inflation report had its largest jump in a year-to-year comparison since 1981.

Why is this happening? See this previous post for more details, but for a quick summary:

– When the Feds lower rates, the value of the Dollar goes down. A decrease in the value of the Dollar means it takes more Dollars to buy the same amount goods.

– Oil is traded in Dollars and as the value of the Dollar decreases, oil prices go up. We are now seeing record oil prices and gas prices over $4 a gallon.

– A gas prices go up, food costs rise because it costs more money to get food to the local grocery store.

This doesn’t even take into consideration how oil prices are affecting the price of corn. To help reduce gas consumption, ethanol is now being used as an additive to gas. Corn is used to produce ethanol, and corn prices have increased from about $3.50 in 2007 to over $7 in 2008. This increases the cost of feed for cows and chickens, which increases the cost of dairy products.

What can the Feds do to combat inflation? Begin raising the federal funds rate. Easy, right? Well, not exactly.

While rates do need to be increased to combat inflation, increases to the federal funds rate will put more pressure on banks and the lending market. This, in turn, would put more pressure Fannie Mae and Freddie Mac, who are the linchpins for the lending world (more on Fannie and Freddie later this week).

So, what will the Federal Reserve do? Increase rates to fight inflation at the possible cost of putting more pressure on the lending market, or keep rates steady resulting in less pressure on banks but at the potential cost of more inflation.

Either way, the Feds could hurt the economy as they try to help it. Glad this is a decision I don’t have to make.

Moving targets

clayjeffreys — Thu, 19 Jun 2008 15:41:07 +0000

Much like hitting a moving target, it is hard keeping up with the seemingly daily guideline changes from lenders, Fannie Mae, Freddie Mac and mortgage insurance companies.

While the pace of guideline changes have slowed from 2007, it still happens!

A post by a colleague of mine here at Hillside Lending titled, “Thinking Inside the Box” details the new, improved, and more interesting loan process. The bottom line message from that post — before the debacle of 2007, underwriters were more subjective in their decisions. Now they look for every “t” to be crossed and “i” dotted when it comes to guidelines.

Back to our moving targets… we’ve seen several changes over the last year and a half including:

- Combo loans all but disappearing

- The end of 100% financing

- Rate adjustments for credit scores in the 700s

- Minimum down payment requirements increased for investment properties

Changes on the horizon: Some lenders and mortgage insurance companies have declared that several metro-Atlanta counties are now a declining market and minimum down payment amounts have been increased from 3% to 5%. But remember, these are moving targets. Not everyone has declared metro-Atlanta a declining market. In fact, some lenders have sounded more like a politician flip-flopping on a platform… “3% down”… “no, 5% down”… “wait, 3% down.”

In this time of moving targets, it is imperative for you to work with a professional: a mortgage broker who is up-to-date on guideline and loan program changes, someone who is well-versed in market trends that determine mortgage rates, and, lastly, someone with multiple funding sources – meaning funding available from different lenders who have different guideline requirements.

There is more paperwork involved in buying or refinancing a house, but working with a professional who can answer questions on guidelines, document requirements, and knows what to ask for in advance makes the loan process as easy and straightforward as possible.

Update — Trapped like a rat

clayjeffreys — Thu, 12 Jun 2008 19:52:49 +0000

For the background to this post, check out the original post of “trapped like a rat” on Friday, May 30, 2008.

Bonds rallied on the Monday and Tuesday following the original post to finish and hold above the 200 day moving average. That kept mortgage rates at 6.000% — the high end of the trading range I mentioned on the May 30th post. Since then the results have been disasterous for bond prices and mortgage rates.

The “blue” line is the 200 day moving average.

Bonds are now well below the 200 day moving average. With more inflation worries coming from the Federal Reserve, the outlook for bonds over the short term isn’t very bright.

It seems the new trading range for mortgage rates will start at 6.250%. How high will this range go? Well, that is yet to be determined.

A Fight for the Ages

clayjeffreys — Wed, 04 Jun 2008 18:50:51 +0000

This is the concluding post for the Conventional and FHA series. For previous posts, use the following links.

Conventional and FHA Loans - Part 1– Interest Rates
Conventional and FHA Loans - Part 2 — Down Payment
Conventional and FHA Loans - Part 3 — Mortgage Insurance
Conventional and FHA Loans - Part 4 — Appraisal Value versus Purchase Price

Ladies and gentlemen, boys and girls, let’s get ready to rumble… In the red corner, I give you Conventional loan. In the blue corner, FHA loan.

As we get ready to start this highly anticipated match, let’s take a minute to go over the rules. This contest will list the characteristics of the loan programs, and there will be absolutely no punching below the belt.

Conventional (prime) Loans

– interest rate is generally lower than the interest rate of an FHA loan

– require a down payment of at least 3%

– loans with less than a 20% down payment will require private mortgage insurance

– loan options to avoid private mortgage insurance are available

– mortgage insurance is based on the appraisal value of the home

– relies on the traditional credit score model for qualification

FHA Loans

– loan is partially guaranteed by the Government

– typically carries a higher interest rate than prime loans

– mortgage insurance is required for loans with less than a 20% down payment (called mortgage insurance premium for FHA loans)

– there is an upfront mortgage insurance fee of 1.5% of the loan amount collected at closing

– mortgage insurance based on the purchase price of the home

– there are no options available to avoid paying mortgage insurance premiums

– down payment assistance programs are available

And we are ready for round 1. This is going to be great!

TIME PASSES BY…

The fight is over. They both made it through 12 rounds. What a fight! We are waiting on the judges for the winner… NO DECISION! NO DECISION! I can’t believe it. Someone has to win, shouldn’t they?

Back to reality… Several factors go into qualifying someone for a loan (credit score, credit history, income, assets available for a down payment, purchase amount, etc.). A loan officer choosing one option over the other for you without explaining the pros and cons of each is doing you a disservice.

I will end this series the way it began… I recommend speaking with a mortgage consultant that can provide professional advice that informs and educates you on the pros and cons of each loan program to ensure you get the best fit possible for your mortgage.

Trapped like a rat

clayjeffreys — Fri, 30 May 2008 13:50:10 +0000

Mortgage rates get their cue from the mortgage backed security bond market. When bond prices go up, mortgage rates go down. When bond prices fall, mortgage rates go up. There are several items that influence bond prices including economic reports, inflation, more investment into stocks, and “technicalities” of trading such as the 25 day, 100 day, and 200 day moving average

These “moving averages” act as either a key level of support or a level of resistance for bond prices. The 200 day moving average is one of the strongest levels. Since the mid 2007, the 200 day moving average has been a key level of support for bond prices that have kept mortgage rates at 6.250% or lower.

I mention this because mortgage bonds closed at the 200 day moving average on Wednesday, and closed well below the 200 day moving average on Thursday. What had been acting as a level of support is sadly becoming a level of resistance for bond prices.

This is important because bonds have only drifted below this level on three separate occasions within the past three years. The last time bond prices broke through the 200 day moving average, it took an onslaught of bad economic news to push it back above that line. How bad was the economic news? The poor economic reports that helped break through the 200 day moving average forced the Federal Reserve to begin cutting the Federal Funding rate back in September 2007.

There will be a noticeable impact on interest rates. The rates for a 30 year fixed mortgage have traded in a range of 5.625% to 6.000% over the past 11 weeks. With the price of bonds dropping below the 200 day moving average, expect the new trading range to begin at 6.125% or 6.250%.

The next couple of days are crucial. If bond prices can rebound quickly, they may be able to push through the 200 day moving average and make it – once again – a floor of support. As optimistic as that sounds, the trend direction for bond prices is down. Barring a timely reversal, bonds and mortgage rates are going to be trapped below the 200 day moving average, and we will see a shift in the market towards higher interest rates.

Conventional and FHA loans — Part 4

clayjeffreys — Thu, 29 May 2008 14:42:12 +0000

This series began by looking at the differences in Conventional loans versus FHA loans regarding interest rates, then mortgage insurance, and in the last post, how mortgage insurance is determined (appraisal value versus purchase price). Part four of the series will look into down payments and assistance for making down payments in both programs.

The purchase scenario is based on a $200,000 purchase price. The borrower will put a 3% down payment on the home. The rate for both loans will be 5.75%. Let’s begin with conventional loans.

If the borrower does not have at least a 3% down payment, the down payment can come in the form of a gift from a family member. For a $200,000 home, the down payment and/or gift amount would be $6,000. The loan amount would be $194,000.

FHA guidelines allow a borrower to use funds for a down payment by a gift from a relative, from a government grant, or a donation from a nonprofit organization. The borrower does not have to pay back the down payment, but there are differences between those options. Receiving a donation through a nonprofit organization can be a bit different. A typical scenario looks something like this:

– A borrower is interested in buying a home, but does not have the funds for the down payment

– The seller gives a donation in the amount of 4% of the purchase price to a nonprofit organization. To compensate the seller, the purchase price of the home is typically increased by 4%.

– The nonprofit organization will then give a donation in the amount of 3% of the purchase price to the borrower

– To be clear, this is not required, but is a typical scenario.

On a home with an asking price of $200,000, the agreed purchase price would actually be increased to $208,000. The seller then “donates” $8,000 to a nonprofit organization, and roughly $6,000 goes to the borrower for the down payment. That makes the loan amount $202,000, but wait, there’s more.

Don’t forget to factor in the 1.5% upfront MIP fee for mortgage insurance on an FHA loan (see the second part of this series for more information). The loan amount is now just a shade over $205,000.

An interesting question is now raised. How long will it take to get the FHA loan amount down to $194,000 – the original loan amount of the conventional loan under this scenario? Using a rate of 5.75%, it will take 46 payments (almost four years) to pay down the FHA loan balance to $194,000. For the life of the loan, this borrower would pay over $23,000 more for the FHA loan than the conventional loan.

Using a down payment assistance non-profit organization for the down payment, our borrower was able to get the $6,000 needed for the 3% down payment. However, at the end of the loan term, the borrower would have paid almost four times that amount through additional principle and interest! If it is possible to put at least 3% down yourself or get the needed funds through a gift from a relative, it would save you thousands of dollars to use a conventional loan instead of an FHA down payment assistance program loan.

As I said before, there are legitimate FHA down payment assistance programs out there. However, be careful which ones you choose to use because some of them are not what they claim to be!

More inflation troubles?!?

clayjeffreys — Wed, 21 May 2008 20:39:15 +0000

The minutes from the recent Federal Reserve meeting were released today and they continue to support the notion that our economy is slowing down. In fact, the minutes said there is an expectation for the economy to shrink over the first half of the year.

For an in depth review of the minutes, check out this article by Chris Isidore, a CNNMoney.com senior writer. To quickly summarize, the Feds posted negative revisions to their 2008 forecasts on economic growth, unemployment rates, and inflation. Specifically on inflation, the Feds said “it now expects personal consumption expenditures (PCE) to rise between 3.1% and 3.4% in 2008, a full percentage point more than its earlier expectation.”

What does that mean? The Fed’s target area for PCE (one of its favorite tools to measure inflation) is 2%. In April, that figure was at 2.1%. That means the Feds expect to see the PCE increase an entire percentage point by the end of 2008. I know what you may be thinking, “what is the big deal about 1%?” As an example, let’s use the cost of a gallon of milk with the time frame of 30 years.

This past weekend, I bought a gallon of milk for $4. Under the Feds preferred PCE target of 2%, in 30 years that same gallon of milk will cost $7 a gallon. At 3.4% (the high end forecast for inflation this year), the price of milk goes up to $11a gallon! This of course is inflation only and makes no assumptions on the cost of producing milk, food for cows, etc, but you can see why inflation is such a big priority for the Federal Reserve.

…for a sobering example of the increased cost on big ticket items, see this previous post using the MSRP price on a Toyota Corolla…

Inflation will also have a negative impact on mortgage rates. As inflation figures continue to climb, you can also expect to see an increase in rates. Now the increase could be tempered with bad economic reports/forecasts, but expect inflation to cause an increase to rates as we continue to move through 2008.

Conventional and FHA loans — Part 3

clayjeffreys — Mon, 05 May 2008 19:06:47 +0000

In part 3 of our series, we will look closer at the subtle differences in mortgage insurance for conventional and FHA loans (remembering on an FHA loan it is called MIP = Mortgage Insurance Premium). First, let’s quickly recap some of the difference between private mortgage insurance (conventional) and mortgage insurance premium (FHA).

– There are ways to avoid mortgage insurance with a conventional loan. That is not the case on an FHA loan.

– There is an upfront fee of 1.5% of the loan amount for MIP on an FHA loan.

– The monthly premium for MIP (FHA) is less than the premium for PMI (Conventional)

– MIP is based on the purchase price of the home and not the appraisal value of the home.

So what is the difference basing mortgage insurance (MIP or PMI) on the purchase price versus the appraisal value of a home? The difference involves when you can remove the mortgage insurance payment from your mortgage. Let’s look at an example based on the following:

– the purchase price and appraisal value are both $200,000

– 78% loan to value will be used as the threshold needed to be met in order to remove mortgage insurance

– both loans will be 100% financing with an interest rate of 6.000%

If you purchase a $200,000 home with an FHA loan, MIP is based on the purchase price. In order to remove MIP, the loan must be paid down to $156,000, or 78% of the home’s purchase price. Making regular monthly payments, it will take 12.5 years to pay down the loan to 78% of the purchase price in order to remove MIP.

If you purchase a $200,000 home with a conventional loan, PMI is based on the appraisal value. You make your regular monthly payments, but let’s say over the course of 5 years, your home averaged an appreciation of 1.5% per year. After 5 years, your house is now worth almost $215,500. Instead of needing to pay down the loan amount to $156,000 to remove PMI, your new target is $168,090. If your home continued its 1.5% appreciation each year (and you continued to make your regular monthly payments), you would reach the 78% mark at year 8 – roughly 4 years earlier than on an FHA loan.

In summary, if you qualify for a conventional loan, odds are it would be better in the long run to get a conventional loan in order to avoid paying the 1.5% upfront MIP fee with FHA loans along with being able to remove mortgage insurance sooner with a conventional loan.

Borrowers who don’t qualify for a conventional or are in need of down payment assistance should take a closer look at FHA loans, but be careful! Some down payment assistance programs are not what they seem, and that will be part 4 in our series.

the final cut?

clayjeffreys — Wed, 30 Apr 2008 21:00:28 +0000

Like bad movie sequels, all things must come to an end. For inflation hawks, the end of the seemingly continuous rate cuts can’t come soon enough! Well, the end may indeed be here. Hinting this may be it for rate cuts, Bernanke and the Feds cut the Federal Funds rate by .25% this afternoon (lowering the rate to 2% and brings prime rate down to 5%). This is the seventh cut by the Feds since September.

The first “Pirates” movie was amazing! The sequel, unnecessary. The third one, ridiculous!

As much as I love “Captain Jack,” I hope this franchise is finished!

How will this affect rates? The previous six rate cuts caused the bond market to lose 78 or more basis points in the next few days following the cut. The drop in bond prices forced mortgage rates up. However, this time things could be different.

If this is indeed the last cut, it may actually strengthen the bond market, and the initial market reaction supports this theory. Since the rate cut announcement this afternoon, bonds rallied from a deficit to finish over 40 points ahead on the day while stocks lost over 100 points to finish in the red. This caused mortgage rates to improve over the course of the day.

Why the change for the bond market? The previous rate cuts also came with multiple hints of future rate cuts. Continued speculation of future cuts — the fire that stokes inflation – caused bonds to react negatively. Since the Feds statement today said this is it, bonds are reacting more positively knowing that Feds are done with cuts, which will help tame inflation. It will be interesting to see how this plays out the rest of the week, especially with the Feds favorite economic report for reading inflation being released tomorrow.