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WEST PALM BEACH, Fla. – The advent and growing popularity of new mortgage products such as interest-only loans and 40-year mortgages have helped more consumers buy homes and fueled climbing home sales and prices in the purchase market. But rising home prices and sales also have raised the red flag about a possible housing bubble and left some experts wondering about the risks lenders may be exposed to if the bubble bursts. There’s no denying just how hot the housing market continues to be even with the end of the refinance boom. In May, the Commerce Department reported the sales of new homes climbed to the second highest level in history. Sales of new single-family homes rose by 2.1% to a seasonally adjusted annual rate of 1.3 million homes. The announcement of those figures followed an earlier report that sales of previously owned homes totaled 7.13 million units in May, down slightly from April’s pace but still the second fastest sales rate on record for existing homes. The median sales price of existing homes continued to go up in April to hit a record of $207,000. As for new homes, the Commerce Department said the median sales price in May dropped 6.5% to a median $217,000. This was the second decrease in the past four months since median new home prices hit an all-time high of $237,000 in February. The surge in demand for new and used homes have led to concerns among some mortgage experts of what has been described as “a speculative fever” fed by consumers wanting to get in while the market’s hot and that, they say, is creating a housing bubble that remind them of the dot com stock market bubble that burst in early 2000. Fannie Mae VP, Chief Economist David Berson said the company has seen three things occurring in the housing market: * home sales have set records in each of the last four years and they’re on their way to setting a fifth consecutive record. A lot of that behavior can be explained by a strong economy, low rates, and good housing demographics. * home price gains have exceeded income gains by significant amounts, especially in the last two years. * what’s pushing those figures is the strength of the purchase mortgage market. The share of purchase mortgage loans has roughly doubled in the last two year – instead of it being typically around 5-6%, it’s been 12%, and in some markets 25-30%. The purchase mortgage market is being boosted by investors coming into the market, but Berson emphasizes that the housing market would still be very strong even if the investor market remained at more customary levels. “In some markets it’s clearly speculation purchases, but not all investors are speculative buyers. They can’t all be lumped together, we don’t know what percentage of them are speculative buyers intending to flip their property. Nobody collects data on that,” says Berson. He calls attention to the fact that the mortgage market saw a similar large surge in investor buying in the late 1980s – the 1990/91 recession put an end to that. The U.S. also had a period of about five years from 1990-95 when home prices were weak and saw regional decline in home prices, particularly in southern California and the Northeast. That downturn in housing was precipitated by the economic recession. “We can say that the high investor share of the market caused the decline in home prices to be deeper and longer lasting,” says Berson. “But even if the investor share had been low, we could have still seen similar price declines because the economy remained slow. There wasn’t much economic recovery until 1995. “The key driver to mortgage delinquency is always the job market,” says Fannie Mae’s economist. “We can say that the state of the mortgage market, that is the riskiness of the products being used and the average age of the mortgages, affect the amplitude of the changes. If people are using riskier mortgages then the rise of unemployment would result in a rise in delinquency.” Of course, there’s no way of knowing from mortgage delinquency rates if the mortgage is on an owner occupied home or investor home. Berson says 90-days or more past due loans peaked in 1986 at 1% of loans. By 1990, that figure had fallen to 0.7%, and by the middle of 1992 it was up to 0.83%. More recently after falling to 0.56% in mid-2002, 90-days or more past due loans went up to 0.95% in mid-2003. “Usually after the fifth year of a loan term, households historically have enough equity in the home so if something happens they can sell the home and pay off the loan rather than default. Today, because there are so many new homeowners, the age of the mortgage stock is very young. That’s a negative that’s offset by a good economy,” Berson explains. Fannie Mae’s Jef Kinney, VP business and product development explains there are really two risks for the housing market and each, he says, are separate issues. The first risk, he says, is a bubble or market correction that would trigger home prices to stagnate or decline. The second risk is that payments on innovative products start out low and then escalate over time. When the mortgage rate resets, Kinney says “you could have people whose income hasn’t gone up commensurate with their payment increase and can’t make their mortgage payment.” Kinney says on the business side, Fannie Mae is focused on the potential payment shock some people are facing if interest rates and their monthly mortgage payments go up.” “There are a lot of people out there who have seen home prices continue to appreciate and think if they don’t buy a home now it will be out of reach for them next year. So they decide to buy now while they have the chance to afford one,” says Kinney. “Consumers are being too nearsighted with what they can afford now. They see an investment and appreciation potential, and tell themselves if it keeps going up then they’ll be farther away from owning a home. So they better buy one now,” he says. Kinney stresses that “not every product is right for everyone. All the mortgage options available to consumers are only worth their weight if consumers have all the information and can make an informed decision. Unfortunately, he says, “my experience is many consumers don’t understand these products thoroughly. People need to understand their obligations when they take a loan out and understand what they might be faced with.” As for Fannie Mae’s 40-year mortgage product, Kinney says the company hasn’t been doing a “huge volume” on the product, but it’s generated a lot of interest at the consumer and lender level. Moderation the best Policy? Brad Crandall, CEO, CU Companies says the CUSO has become very cautious with the products it’s offering. The 40-year, fixed-rate product is on its menu because, says Crandall, “at least with that one borrowers know what the expectations are, they know their payments aren’t going to change.” He said some members have chosen that product, “but I don’t think we’re meeting Fannie Mae’s expectations.” CU Companies is also doing five and seven-year ARMs and fixed-rate products. But he says CU Companies has been more wary of interest-only products. With this product, says Crandall, “people are only looking at the immediate payments and aren’t completely educated with the risks associated with the product. Interest only products are very attractive for their start rate, but consumers may find themselves in payment shock if they wind up staying in their homes longer than they intended. There are always things that happen that cause us to stay in a home longer than we anticipated.” When it comes to helping a member make an informed decision about a mortgage product, Crandall says “it’s all about education. I understand the interest only loan is the perfect product for some people. I just don’t want to feel responsible for jamming someone into a product just to put another unit on my board.” Crandall says many first-time homebuyers are looking at their monthly payment on interest-only loans and seeing a payment they can manage and being able to buy more house than they could otherwise afford. Unfortunately, he says, they’re not thinking about the consequences. “Ten to 12 years ago, it used to be new products came out but a borrower still had to qualify with the same criteria as a fixed-rate mortgage and the income-to-debt ratio was very strict. Now new products are credit driven, and too many lenders give the consumer the product so long as they see they pay their bills,” says Crandall. “We see many consumers being approved for these products even though they’re carrying a lot of debt,” he adds. Regardless the arguments and differing opinions concerning just how risky the innovative type of mortgage loans are to consumers, federal regulators are taking notice and action on their own. Getting NCUA’s Attention NCUA Board member Debbie Matz confirmed the agency “is concerned and monitoring the situation.” Starting about a year ago, she said NCUA began collecting data on hybrid real estate loans and their share of credit unions’ loan portfolios. “We’re concerned whether members are getting in over their heads by getting more of these products. When interest rates go up, will they be able to handle the payments,” she said. Matz says the NCUA still advocates credit unions need to make more mortgages and offer innovative mortgage products especially to members who otherwise couldn’t afford to purchase a home, “but they need to do so responsibly and make sure the underwriting is carefully done.” She added that according to the latest credit union statistics, “credit unions haven’t really thrown themselves” into innovative mortgage products – the latest numbers show two-thirds of the loans in CUs’ portfolios are fixed loans. Still, she said David Marquis, director, Office of Examination & Insurance is “considering issuing” in the next couple of months, a credit risk letter to credit unions concerning their involvement with these types of mortgage products. Marquis said he still needs to do “further research” on the issue. Banking regulators have also perked up their attention on the matter and some are starting to take preemptive action. According to Realty Times, Barbara Grunkemeyer, deputy Comptroller of the Currency said the agency is also keeping an eye on some of the more popular mortgage funding in the U.S. and the OCC could “rein them in as early as this Fall.” She told the newspaper that the OCC was spearheading a multi-agency federal examination of lender underwriting, marketing and risk management of interest-only and “option payment” adjustable home mortgages which have become increasingly popular among homebuyers. The result of the examination, Grunkemeyer said, is likely to be new guidance for banks and other regulated lenders on underwriting and credit standards for these loans. She also confirmed that the examination was “on an unusually fast time track because of widespread concerns in the federal government and the financial industry that some of the new wave of “affordable” adjustables are being underwritten too loosely and could be putting consumers into homes they really cannot afford.” -

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