Buffett Says ‘No-Brainer’ to Get Mortgage to Short Rates

[EliG]

Is this common in Canada?  Mortgages in the US isn't like buying a car where the sticker price is 6% but if you're good you can talk them down to 3.5%.  From my experience rates tend to reflect credit worthiness.  If you have perfect credit you can get the best rates, if you have bad credit, or things the bank doesn't like then they won't offer the best rate.

 

I have a friend who was a mortgage broker about 10 years ago, I should ask him if he was haggling for the best rates for his clients.  This is fascinating.

 

I think it's very common in Canada. Posted bank rates are exactly like car MSRPs. No one pays them, except maybe a few financially illiterate suckers. You can easily get a much better rate through a mortgage broker. The brokers don't actually haggle on your behalf. They have prearranged deals with the lenders. Lenders pay them a commission on each mortgage sale.

 

Mortgage broker rates depend on the credit score, of course. The advertised rates assume a good score.

[benhacker]

Nate,

 

Banks aren't making these loans, they're originating them then selling them to the US government.  Based on a cursory glance at a number of banks they aren't holding anything on their balance sheet past 10-15 years at the most.  Almost everything is dumped on the US Gov.  The government is the real patsy here, they're subsidizing the housing market, but they have been all along.

 

Unless by "US Gov" you mean "Fannie and Freddie", I think this is wrong (and even so, it's mostly wrong).

 

Both the GSEs have a large mortgage (owned) portfolio, but a larger guarantee portfolio, where the underlying mortgage (MBS) is sold to 3rd party investors, and the GSEs guarantee payments (they don't take IR risk).

 

The US Gov (aka, the GSE + Ginnie Mae) in these cases are on the hook for "Credit Risk" but not "Rate Risk" which lies with the ultimate end investors.  You could argue that the retained Mortgage portfolio of the GSEs is effectively the US Gov's at the end of the day (true) but it's much smaller than the guarantee portfolio.

 

There are buyers of 30 yr mortgages at today's prices (mortgage REITs are among them, as well as pension funds, Sov wealth funds, etc), with the Gov backstopping the credit risk... so there are buyers out there who own a duration time bomb for sure (and do so with full knowledge of the risks)... the US Gov isn't on the hook for all this, but I think this is a common misconception.

 

Also, because of the above (just as a related thought), I think the fact that a 30 year mortgage wouldn't exist without the GSEs is actually a bad assumption.  I think it would, it would just price much higher (due to the additional risk and lack of capital) but there would be demand, and a market clearing price (similar to Jumbo loans, or perhaps with a higher rate).  I agree that it probably isn't a product that would be naturally occurring withe gov in the first place, but now that it's here, something similar would remain.

 

My 2 cents.

 

Ben

 

[original mungerville]

It blows my mind that anyone would commit to a 30 year locked in interest rate.  The odds of that being profitable in 5 years, let alone 20 or 30 years is Nil.  Only in the US.  Our longest locked in, in Canada is 10 years at much much higher rates than a 5 year.

 

Yes, our 5-yr is at 2.75% or something, then the typical 10-year is at 4.6% or something. By some fluke/stroke of luck, I am currently locking into a 10-year at 3.6% which for Canada is a steal. (I think the rate has already move up to 3.8% or something - this is Desjardins). In any case, you are usually talking mid to upper 4s when the 5 year is below 3% which is not great.

 

Hi Mungerville,

 

Why are those rates you are talking about so different from what I see on Desjardins website? http://www.desjardins.com/ca/rates-returns/financing/mortgage-loans/

 

Their website lists the 10 year fixed rate mortgage at 6.75%

 

My search always starts with a mortgage broker. In this case, this particular broker: http://www.truenorthmortgage.ca/

 

It looks like they are offering a 10-year for 3.75% at this point (so a little higher than what I locked in about 6 weeks ago or so).

 

 

 

 

[james22]

With the reset in the recent crisis, we are starting from depressed valuations.

 

Wut?

[oddballstocks]

Nate,

 

Banks aren't making these loans, they're originating them then selling them to the US government.  Based on a cursory glance at a number of banks they aren't holding anything on their balance sheet past 10-15 years at the most.  Almost everything is dumped on the US Gov.  The government is the real patsy here, they're subsidizing the housing market, but they have been all along.

 

Unless by "US Gov" you mean "Fannie and Freddie", I think this is wrong (and even so, it's mostly wrong).

 

Both the GSEs have a large mortgage (owned) portfolio, but a larger guarantee portfolio, where the underlying mortgage (MBS) is sold to 3rd party investors, and the GSEs guarantee payments (they don't take IR risk).

 

The US Gov (aka, the GSE + Ginnie Mae) in these cases are on the hook for "Credit Risk" but not "Rate Risk" which lies with the ultimate end investors.  You could argue that the retained Mortgage portfolio of the GSEs is effectively the US Gov's at the end of the day (true) but it's much smaller than the guarantee portfolio.

 

There are buyers of 30 yr mortgages at today's prices (mortgage REITs are among them, as well as pension funds, Sov wealth funds, etc), with the Gov backstopping the credit risk... so there are buyers out there who own a duration time bomb for sure (and do so with full knowledge of the risks)... the US Gov isn't on the hook for all this, but I think this is a common misconception.

 

Also, because of the above (just as a related thought), I think the fact that a 30 year mortgage wouldn't exist without the GSEs is actually a bad assumption.  I think it would, it would just price much higher (due to the additional risk and lack of capital) but there would be demand, and a market clearing price (similar to Jumbo loans, or perhaps with a higher rate).  I agree that it probably isn't a product that would be naturally occurring withe gov in the first place, but now that it's here, something similar would remain.

 

My 2 cents.

 

Ben

 

Ben,

 

Yes, I didn't use the correct terms, but I agree with what you said.  Bankers I've talked to said that they won't hold anything over 10-15 years on their books.  They originate those loans and sell them to the GSE's.  I don't know how the mechanics work once they're sold, I just know that the bank gets the servicing rights and someone else buys them.  The GSE's will buy anything if it fits into certain parameters, so they're the ones (or ultimately investors) taking on the interest rate risk.  The rates are too low to compensate for the real risk, which is why banks won't keep these loans.

 

While technically the government isn't buying and holding the loans on their books the infrastructure they've setup allows banks to continue to make these loans and sell them off.

 

One party that does seem to be taking the long term credit risks here are Credit Unions.  I was just talking with someone yesterday about these guys.  In conversations I have with anyone in the industry Credit Unions come up repeatedly as the patsies at the table.  They are paying the highest on deposits, making loans at incredibly low rates, taking on bad credits and duration risk.  I think we're going to see a crisis around these things next.  Ones that need to raise capital will end up converting into full fledged banks (cu -> mutual -> thrift). 

 

 

[Guest longinvestor]

With the reset in the recent crisis, we are starting from depressed valuations.

 

Wut?

My home bought in 2002 fell 45% in appraised value during the crisis. It has started the slow climb since...still -25% from price paid. My guesstimate is it will take another 10 years to return to par. Perhaps longer.

Why I would like to take a 50 year mortgage (ok, 30) @ historically low rates to free up investment capital & let the real estate market pay my home equity. Pay down the house as late as they will let me. My investment in the home has been an unmitigated disaster. A 20+ year sunk cost. But not my investment portfolio.

Hope that helps

[thepupil]

Your home is down 25% since 2002? If you don't mind answering, where do you live? Detroit or Rust Belt?

[petec]

 

Also, because of the above (just as a related thought), I think the fact that a 30 year mortgage wouldn't exist without the GSEs is actually a bad assumption.  I think it would, it would just price much higher (due to the additional risk and lack of capital) but there would be demand, and a market clearing price (similar to Jumbo loans, or perhaps with a higher rate).  I agree that it probably isn't a product that would be naturally occurring withe gov in the first place, but now that it's here, something similar would remain.

 

 

I wonder.  It doesn't exist in Canada, and it doesn't exist in the UK.  I suspect that's because there isn't actually a market clearing price.  The price the banks need to cover their risks just doesn't look attractive enough next to the rates you pay for 10-year fixed or 30-year floating, and I don't think they ever will because I think most people think 5-10 years ahead and not 30.  I think the 30 year future is just too murky (whether it be job security or inflation, you don't know what's going to happen).  The only taker of a 30-year fixed loan at market rates will be someone who thinks that inflation's going to be higher than the banks think it's going to be.  There will be very few of those people at a time like this.  Sadly, you might well find that there's a lot of demand for those loans when rates have been rising for 10 years and are at 15% again ;)

[petec]

 

It seems to be a common assumption that increasing mortgage rates will lead to lower house prices, but recent history does not support this seemingly obvious conclusion. Take a look at the following article from Forbes: http://www.forbes.com/sites/billconerly/2012/12/18/when-mortgage-rates-rise-will-home-prices-fall/. About midway, there is a table that lists the six instances since 1976 when mortgage rates increased by one percent or more; in every case, house prices -- as measured by the FHFA index -- increased during the period of increasing rates. Maybe the next time will be different, but given the historical data, it won't be a surprise if house prices continue rising as mortgage rates increase.

 

House prices and rates will rise together when the economy is doing well - what central bank raises rates when it isn't (apart from a Volcker-inspired one)?

 

What's more important is what happens to house prices *after* rates have been rising for a while.  For example, the article gives Q32006 as the last interest rate peak.  IIRC house prices dipped after that...

 

The inescapable maths is that when rates double, a buyer putting 20% down and paying for the rest with an interest-only mortgage finds his buying power drops by 40% for the same repayment.  Clearly the effect isn't as drastic for bigger deposits or for amortising mortgages, but the guy I have just described is probably the marginal buyer.

 

So, the only ways house prices can be unaffected by rate rises are a) if households are not close to maxed out on their mortgage payments, or b) if wages rise with rates.  Otherwise, after a period of rising rates, house prices must respond to lower marginal buying power.  Sure there's a lag, because psychology lags reality, but it'll happen.

 

Edit: I would also argue that the article covers short periods of rising rates that fall almost entirely within a secular period of falling rates.  The effect might be very different from what'll happen during a period of secularly rising rates (not that I expect that any time soon).

 

[Guest longinvestor]

Your home is down 25% since 2002? If you don't mind answering, where do you live? Detroit or Rust Belt?

Chicagoland. Was a superhot mkt fo 15 years before 2007. 2002 was as peak as it got.

[benhacker]

Nate,

 

Yes, I didn't use the correct terms, but I agree with what you said.  Bankers I've talked to said that they won't hold anything over 10-15 years on their books.  They originate those loans and sell them to the GSE's.  I don't know how the mechanics work once they're sold, I just know that the bank gets the servicing rights and someone else buys them.  The GSE's will buy anything if it fits into certain parameters, so they're the ones (or ultimately investors) taking on the interest rate risk.  The rates are too low to compensate for the real risk, which is why banks won't keep these loans.

 

While technically the government isn't buying and holding the loans on their books the infrastructure they've setup allows banks to continue to make these loans and sell them off.

 

One party that does seem to be taking the long term credit risks here are Credit Unions.  I was just talking with someone yesterday about these guys.  In conversations I have with anyone in the industry Credit Unions come up repeatedly as the patsies at the table.  They are paying the highest on deposits, making loans at incredibly low rates, taking on bad credits and duration risk.  I think we're going to see a crisis around these things next.  Ones that need to raise capital will end up converting into full fledged banks (cu -> mutual -> thrift).

 

Thanks, and I agree with the duration limit that banks will take.  I had heard a few things about CUs being willing to take more duration risk with mortgages, but I hadn't looked up the data, I'll do that as its curious if so.... thanks!

 

Petec,

 

Related to the above, I agree that a 30yr mortgage isn't naturally occurring (if that's a thing in markets :) ), I just think if the Gov / GSEs stepped back *now* (after we have had a many decade history of 30 FRM), it would have enough demand (in the US) to encourage some creative financial types to create the product (of course at higher pricing).  Here is the thing, if 30 yr mortgage rates went up say 1.5%, there would be a lot of extra padding in that rate to pay for some long term hedges on rates, or other sweeteners to make it worthwhile for the lender. 

 

The question I would have is if the first term of our 30yr mortgage that would go away would be the ability to prepay at any time vs. the 30 year term... I think the free options (for the borrower) attached to our 30yr mortgages are what make them a strange product (harder to hedge)... Perhaps I am wrong though and no bank / finance company / consumer would consummate a mortgage like we have today at 1.5% (my WAG) above today's rates... but there is enough fear of rate rising in this country by regular folks that I think it would be a product that would at least be offered.

 

 

[oddballstocks]

Your home is down 25% since 2002? If you don't mind answering, where do you live? Detroit or Rust Belt?

Chicagoland. Was a superhot mkt fo 15 years before 2007. 2002 was as peak as it got.

 

I remember in 2003 talking to friends about how they lived and worked there.  They purchased a condo for an absurd amount of money way out in Elgin where it was "affordable".  Both the husband and wife woke up at 5am so they could get ready then drive 15-20m to the train station for their hour long train ride into town.  They worked in the loop until 6pm and got home at 7:30pm.  They were together about an hour and a half at night before going to bed at 9 to start it all again.  But they were so proud of being home owners of a tiny condo way out at the fringe of the city.

 

Believe it or not that conversation helped shape my career decisions.  I decided that I'd rather work for less money and live life rather than be stuck in the grind for 'more'.  I remember telling my wife (girlfriend at the time) that I'd rather work at a grocery store and live in a tiny house compared to this 'American dream' these friends had.  It sounded like hell. 

 

I have no idea how life has worked out for them, I've lost touch.  But I know in my own life I've worked to arrange it so that I can live and enjoy life.  I've made choices that have probably cost me future income, but the tradeoff has been more time with my family and less stress, two things that can't be priced.

 

 

[james22]

With the reset in the recent crisis, we are starting from depressed valuations.

 

Wut?

My home bought in 2002 fell 45% in appraised value during the crisis. It has started the slow climb since...still -25% from price paid. My guesstimate is it will take another 10 years to return to par. Perhaps longer.

Why I would like to take a 50 year mortgage (ok, 30) @ historically low rates to free up investment capital & let the real estate market pay my home equity. Pay down the house as late as they will let me. My investment in the home has been an unmitigated disaster. A 20+ year sunk cost. But not my investment portfolio.

Hope that helps

 

My impression is that housing prices have largely recovered. Not to the overvaluation of pre-crisis, no, but to fair value.

 

Sorry to hear of your experience.

[james22]

Because home values remain so far below their peak levels in so many areas, it is still possible for buyers to find bargains.

 

http://zillow.mediaroom.com/2014-07-21-Home-Values-in-Dozens-of-U-S-Housing-Markets-will-not-Fully-Recover-Until-2017-or-Later

 

I don't understand this. What meaning does peak level have? Fair value is the only meaningful measure.

 

Measures: http://fortune.com/2014/07/18/housing-recovery-us/

[fareastwarriors]

In many parts of the SF Bay Area, the house prices are already past previous peak prices. Still rising, though slower lately.

[james22]

Yeah, Austin too. Where I'm looking...

[rkbabang]

What meaning does peak level have?  Fair value is the only meaningful measure.

 

I think it means the previous high water mark.  The fair value is what someone is willing to pay.  In New England we are not yet back up to pre-housing crash levels.

[james22]

I understand it means the previous high water mark, rkbabang, I don't understand the thinking that anything below that represents a bargain.

[rkbabang]

I understand it means the previous high water mark, rkbabang, I don't understand the thinking that anything below that represents a bargain.

 

"still possible to find bargains"  doesn't mean anything below the high water mark is a bargain.  It means only what it says, that it is possible to find bargains.  It is certainly possible to overpay for a house as well.

 

Just like the stock market it is easier to find bargains when the prices are lower in general than when the market is at its peak.  I think that is all that is being said here.

 

 

[james22]

You're probably right.