In order to get more mortgages modified under the Treasury's housing bailout, the two government-sponsored enterprises are relaxing standards. How so? By backing refinanced mortgages with loan-to-value ratios of 125% instead of 105%. That's right: they're encouraging lenders to refinance mortgages with even less equity at origination.
]]> Reuters reports the news, quoting the Treasury Secretary:"By expanding refinance eligibility, we can bring relief to more struggling homeowners more quickly," Treasury Secretary Timothy Geithner said in a statement.
Quite right. This is definitely very good news for underwater homeowners. Of course, it's very bad news for taxpayers. That is, if Liebowitz is onto something in his opinion piece.
The variable here we're talking about is loan-to-value. That's the ratio consisting of the amount of the mortgage over the value of the home. So if you've got a $125,000 mortgage for a $100,000 home, then you've got a loan-to-value ratio of 125% -- the new acceptable threshold for Fannie and Freddie.
A few things to note:
First, the government had better hope that home prices don't continue to decline. If they do, the LTVs of those mortgages will continue to increase, as the bottom of that ratio decreases. That means resulting foreclosures would cause even more pain for Uncle Sam.
Second, even if home prices don't decline further, the government had better hope that unemployment does not increase or persist. If it does, and those newly refinanced homeowners foreclose, that 25% of negative equity will turn into a loss for taxpayers.
In the bizarro world that is government finance, it looks like another policy change for Fannie and Freddie is meant to enhance equity. It's another disaster. From that Reuters article:
In a related move announced on Wednesday, Fannie Mae and Freddie Mac will encourage borrowers to drop their 30-year loan in favor of a mortgage that matures faster. The two companies will reduce the processing fee for borrowers who opt for a 25-year mortgage, for instance.
"The reduction is intended to incent borrowers to select shorter terms and build positive equity in their homes sooner than with a typical 30-year mortgage," Fannie Mae said in a statement.
Sure, that might help build equity faster, but according to Liebowitz's op-ed, it's the equity at the onset that matters to foreclosure. If you're starting these homeowners with negative equity, and then making their payments even higher by shortening their mortgage term, how does that decrease the risk of foreclosure? It doesn't. It increases it.
]]>Correct me if I'm wrong, but I thought the justification for allowing Fannie and Freddie homes to refinance was that the government already owns the risk on these loans. That is, the government already stands to lose out if these borrowers default. My understanding is that the borrowers cannot use this program to cash-out refi, so LTVs will not go up under such refinancings. In that case, doesn't it make sense to do whatever possible to keep them from defaulting, such as refinancing their mortgages into lower interest rates?
]]>1. Home prices decrease -- Fannie/Freddie would have been better off with immediate foreclosure instead of refi, because the house will be worth even less when foreclose ultimately happens.
2. Home prices stay the same, but unemployment worsens -- Fannie/Freddie would have been better off (or at least indifferent) with immediate foreclosure having gotten its money back sooner.
If you assume that few of these people will re-default with a refi, then it's true that the Treasury should raise LTV as they have. But the fact is that loans this underwater have a very high chance of re-default -- just ask Liebowitz.
]]>Before a five-year housing boom ended in 2006, Fannie Mae and Freddie Mac would finance no more than 80 percent of a home's value. Since the companies were effectively nationalized in September, officials have pushed the firms to cover mortgages with higher loan-to-value ratios.
That seems to imply that these guidelines extend to even those loans that are not already owned. Otherwise, the paragraph would make no sense. They may be backing refis they don't already own that are modified under the broader program. It's unclear.
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