The 4.5% Solution?

I have seen a dramatic increase in activity in the local real estate market since interest rates have begun to drop. Some experts expect them to fall even further. Will this be the magic pill we've been waiting for?

Philadelphia Inquirer (12/5/08)
By Alan J. Heavens
Inquirer Real Estate Writer

Realtors, builders, and even the federal government have tried everything from giveaways to incentives to tax credits to get home sales back on track - all with scant results.
The newest suggestion - 4.5 percent fixed-interest rates for home loans fully guaranteed by the government's buying mortgage-backed securities - may be just the maneuver to get the market moving.

Or not.

The collapse of the overvalued U.S. housing sector is the source of what is now a worldwide economic crisis. It assures problems will persist until home sales and home values rise again. But the nation is officially in a recession, and this is no longer just about housing.

A 4.5 percent mortgage rate means nothing for a person without a job, and unemployment is increasing alarmingly.

Still, the housing industry likes the sound of the plan, reportedly being pushed by Treasury Secretary Henry M. Paulson Jr., that would cut rates to 4.5 percent. The experts have already calculated results.

"We predict that it will immediately sell 500,000 houses," said National Association of Realtors spokesman Walt Molony, speaking for the 1.26-million-member group.

The scope of the problem? There are 4.3 million existing homes for sale nationally, 48,000 of them in the eight-county Philadelphia region.

Last week, the Fed said it would lower borrowing costs for buyers by assuming $600 billion in debt issued or backed by Fannie Mae and Freddie Mac. That resulted in an almost-immediate fixed-rate decline of 43 basis points. Even the 5.53 percent 30-year fixed rate that Freddie Mac reported yesterday - down almost a percentage point since the last week of October, according to Freddie Mac chief economist Frank Nothaft - has been enough to increase refinancing and bump up home sales slightly.

Conventional mortgage applications jumped 150 percent nationally over Thanksgiving week, and refinances surged 300 percent. "Roughly three out of four mortgage applications were for refinance transactions, up from around half during the prior week," Nothaft said.
Refinancings have been increasing in the region since last week, although tighter credit rules in effect since the subprime meltdown in August 2007 have limited the effects.
"We had a nice surge of refinances on Tuesday and Wednesday [last week]," said Jim Goldsmith, branch manager of Gateway Funding in Horsham. "We typically track rates for past clients and notify them when a rate drop makes refinancing beneficial. Several applied right away."
On the other hand, many people who want to refi can't just show up and get it done.
"Borrowers wishing to refinance may find the value of their homes is down and now owe more than 80 percent of the value and must pay private mortgage insurance," said Jerome S. Scarpello, of Leo Mortgage in Ambler. He has had many inquiries, but only four applications "because they tell me that the rates are going down to 4.5 percent," he said.

Because Paulson has said nothing officially about the 4.5 percent plan, there is confusion over whether the rate and the government guarantee included in this latest plan would be for purchase only or for refinancing as well. "If it is only for new mortgages, it would not have a big impact," countered Nariman Behravesh, an economist with IHS Global Insight Inc., of Lexington, Mass. "If it also applies to existing mortgages" - refinancing - "then it could have a big impact on limiting the rise in foreclosures."

Kevin Gillen, Wharton research fellow and president of Econsult of Philadelphia, agrees.
"If this applies to purchase loans only, I not only don't see how this will help, I can also see how it could prolong and even exacerbate the housing correction," he said. The only people who can buy homes right now are those with sufficient income, decent credit, and a sizable down payment, and that's who this plan would help, Gillen said. But that's not who is in need of help. The ones who are in trouble are underwater on their mortgage, possibly unemployed, and are either close to, or in the process of, foreclosure. "This strikes me as a very indirect way to address the problem," Gillen said.

"If the rate were 4.5 percent, it would spur people," said Art Herling, regional vice president for Long & Foster Real Estate, who has been saying for months that the 6 percent fixed rate in place for more than a year has stalled sales.

Some experts are more impressed with the government loan guarantees than the lowered rates.
"The government needs to put Fannie, Freddie, the FHA and all entities involved in mortgages into the same agency working with the same set of guidelines, and then rates would remain low and the results for the economy would be amazing," said Philadelphia mortgage broker and Realtor Fred Glick. "Right now, the hottest mortgage product on the market is a 30-year fixed-rate loan at 5.5 percent backed by the federal government," said Peter Buchsbaum, branch manager of Arlington Capital Mortgage Corp. in Jenkintown. That and other FHA loans "are selling like wild."