Boo!

When the National Association of Realtors, the National Association of Home Builders, and the Mortgage Bankers Association wrote their letter to the Fed last week, they didn’t pull their punches. 

• ??”The speed and magnitude of these rate increases, and resulting dislocation in our industry, is painful and unprecedented in the absence of larger economic turmoil.”
• “Further rate increases…pose broader risks to economic growth, heightening the likelihood and magnitude of a recession.”

Those are just two of the more powerful statements included in the letter—there are plenty of others if you want to read it yourself.

In writing the letter, these real estate groups hope to dissuade the Fed from raising the Funds Rate for the 12th time since March 2022 (and raising the average 30-year mortgage in the process).

What’s happening in the market nationwide

Mortgage rates are rising like the dead, climbing from about 4% in March 2022 to 8% today. To put that in perspective, it hasn’t been this expensive to finance a home since Final Destination was THE scary movie to watch during Halloween. 

The higher cost of borrowing is frightening people, which means the market is colder than a morgue in winter. Buyers are pulling back because they don’t want to deal with monthly payments they can’t afford. Sellers are shying away from listing because they don’t want to sacrifice their 3% interest rate upon the altar of downsizing or upsizing. 

As a result, new mortgage applications are at their lowest point in 27 years and the sale of previously owned homes is down 15% YoY.

The Grim Reaper isn’t going to budge

Despite the panicked nature of the recent letter, the Grim Reaper…I mean, Chairman Powell…isn’t going to budge on his commitment to getting inflation under control.

Although it’s down from its 9% peak in the summer of 2022, inflation remains stubborn. As of this writing, annualized inflation is at 3.7%, which is above the target rate of 2%. Coupled with strong job numbers, you can expect Mr. Powell to raise the Fed Funds Rate again before the year ends.  

How can you be sure? Well, Powell said he was “resolute” in his commitment to bring inflation back down to 2%.

“While the path is likely to be bumpy and take some time, my colleagues and I are united in our commitment to bringing inflation down sustainably to 2 percent.” 

Realtors and buyers looking paler than a ghost

Higher mortgage rates wouldn’t be so unbearable if the supply of homes (be they existing or new construction) were high enough to drive listing prices down. 

The problem is supply and demand remain grossly mismatched. A balanced market contains six months of inventory—this market is half that at 3.4 months. Therefore, prices are going to stay high even with the exorbitant cost of borrowing. 

Leaders in the real estate industry know they need to exorcize the demon of high interest rates. Unfortunately, writing a spirited appeal to Jerome Powell and the rest of the members of the Federal Reserve is the wrong approach. 

Housing is important to the US economy, but it isn’t the economy. The Fed is more than willing to burn the housing industry at the stake if it means protecting the soul of the economy from its greatest threat (overall inflation).

The cooling you’re seeing in the market is going to get worse before it gets better. Especially as the industry enters what’s traditionally the slowest time of year. 

When treats don’t work, it’s time for tricks

While you can admire the merit and spirit of the letter, my fellow industry advocates asked for a treat they’re not going to get this Halloween. The icy truth is that the letter contains no teeth and it’s not going to get the Fed to soften its stance toward raising borrowing rates. 

Therefore, the real estate industry needs to refocus on helping buyers and sellers find tricks to play—tricks that will soften the blow of high rates.

Buydowns

Sellers, lenders, and buyers can use interest rate buydowns to reduce their overall interest rate by purchasing discount points. Whether you’re looking at a 3-2-1 buydown, a 2-1 buydown, or another buydown product, everyone can win. Sellers can get a leg-up on other listings and buyers can make a one-time payment that lowers their interest rate for the life of the loan. 

(Please note that a 1-point buydown does not equal a 1% reduction on the interest rate. In the world of buydowns, a 1-point buydown equals a 0.25% reduction in the interest rate.) 

5/1 ARM

A 5-to-1 adjustable rate mortgage allows buyers to lock-in an interest rate that’s below the current 30-year fixed rate for a period of five years. At the conclusion of those five years, the loan rate is allowed to adjust (or “float”) for the remaining life of the loan so that it’s always at the market rate. In other words, if the rate for a 30-year fixed goes up, so does your interest rate and vice versa (though it’s critical to note that the yearly increase will be capped in most, if not all, circumstances).

ARMs allow buyers to finance a higher amount of the purchase price, control their monthly costs for a five year window, and capitalize on 30-year fixed interest-rate hikes that scare more conservative buyers out of the market. 

15-Year mortgage

A 15-year mortgage allows buyers to pay off their loan balance faster. Because the monthly payments are higher by the nature of the loan term being 50% shorter, borrowers secure a lower overall rate. To put the savings in real terms, the day a borrower pays off their 15-year loan, a 30-year borrower still owes more than 70% of the principal on their loan. 

Seller financing

Seller financing is when the home seller finances the deal, allowing the buyer to avoid a traditional lender. For sellers, this is an excellent option as it reduces closing costs, increases capital gains tax savings, and offloads operational expenses (e.g., insurance, maintenance, etc.) to the buyer. 

The buyer gets more flexible borrowing terms, lower closing costs, and (assuming excellent credit) a below-market borrowing rate for the life of the loan.  

Wrap-around financing

Wrap-around financing (also called all-inclusive trust deed financing) is where the buyer makes a single, large payment that’s split in two—a portion goes to the lender on the original mortgage and the rest goes to the seller as payment on the new mortgage.

For sellers, this type of financing provides access to a larger pool of buyers, plus, it provides an additional form of income in the way of interest.

For buyers, it avoids the rigmarole of a traditional lender, including steep fees. It should also lead to more favorable borrowing terms. 

Home-buyer assistance

These are programs designed to help home-buyers overcome common obstacles to ownership, such as soaring interest rates. While there are thousands of different programs across the US, two of the most common are:

Affordable first mortgage programs: Often paired with a downpayment assistance program, this allows buyers to acquire an eligible property at a more favorable interest rate.

Mortgage credit certificates: A program orchestrated by the federal government that allows first-time buyers to write-off $2,000 of their interest payments every year.

Though the particulars of these various programs are all different, their underlying purpose is to subsidize the interest rate for qualified buyers. 

Early payoff 

This one is pretty much as simple as it sounds—the buyer makes extra payments on their mortgage (even as little as one extra payment per year) to reduce the amount of interest they’ll owe over the life of the loan. As an example, by making one extra payment for year on a 30-year fixed loan (7%, $475K borrowed), the buyer will shorten the life of their loan by six years and save more than $150,000 in payments. As long as you can afford it, the payoff for paying a little extra (or more frequently) is huge.

Returning mortgage rates to the grave

Rates are rising like the undead these days, and the battle to get them back underground where they belong isn’t going to be an easy fight. 

That being said, there are things you can do to prepare yourself to combat the high rates plaguing our industry.

If you’d like to talk about how you can overcome these supernatural interest rates, give me a call at 310-853-0335 or shoot me an email at ShannonShue@KW.com.

Tell me what you’re thinking about doing and why. Let’s talk about your unique situation and what your goals are for the future.

Until next time…

-Shannon