A Solution to Rising Mortgage Rates

We have a problem, but it is not too late to fix it.

The decline in interest rates during the past 12 years has been a tremendous boost to the housing industry, yet it also has set our industry up for a disaster if and when mortgage rates rise. According to a new study by Credit Suisse First Boston analyst Ivy Zelman, approximately 90% of outstanding mortgages have an interest rate of less than 8.0%. Well, how would home builders sell move-up homes if 90% of prospective buyers would have to give up an existing low-interest loan for a higher-interest loan?

The answer is simple. Somebody needs to invent and promote a transferable mortgage that stays with borrowers when they move. While this might sound blasphemous because it is "out-of-the-box" thinking, consider the following:

• The best predictor of people's ability to pay their mortgage is their credit score, or FICO score.
• One of the risks mortgage investors fear most is prepayment. They hate prepayments because they want the income over time. A transferable mortgage would eliminate the prepayment risk if rates rise.
• With loans still secured by real, appraised property, the low mortgage rates should continue to apply.

How It Would Work
Let's say I bought a $300,000 home and got a $240,000 fixed-rate loan at 6%. And that after making payments for several years, I wanted to buy a larger, new home, but the mortgage rate was 8%. If the original lender enabled me to transfer the loan to the new property, I could take advantage of the 6% rate. Here is the impact:

• Mortgage owner - The owner of the mortgage bonds is satisfied because I would continue to pay the mortgage, and he would have additional collateral. Additionally, he would receive some transfer fees similar to points paid on a mortgage.
• The buyer - As the buyer of a new home, I am satisfied because I'm able to qualify for a larger home since my mortgage payments are so low.
• The builder - The seller, which in this case is the home builder, would find it far easier to sell homes.
• The mortgage originator - The originator who invented the new product would see a new wave of refinancing over the next year as buyers who hope to "move up" over the next few years lock in today's historic low rates for the remainder of their lifetime.
• The economy - Home building is a cornerstone of economic activity. If the federal government wants to keep construction employment high in an environment of rising mortgage rates, it should consider encouraging efforts by Fannie Mae and Freddie Mac to buy these transferable mortgages.

Be Prepared
The chart below clearly shows what everyone suspects: that home sales volume and mortgage rates are inversely related. While we all hope rates stay low forever, firms that are prepared when rates rise will grow the fastest and make the most money in the next decade.

About the AuthorJohn Burns publishes three free Building Market Intelligence e-mails each month: U.S., Local and Strategic. He helps real estate executives develop and execute strategic plans, conduct market research and maximize profitability. More information is available at www.realestateconsulting.com.