Skip to comments.Painful ARM Twisting: Resets of adjustable mortgages will leave costly stretch marks
Posted on 08/06/2006 8:59:22 AM PDT by ex-Texan
BOSTON (MarketWatch) -- It is becoming increasingly obvious that financial advisers, real estate experts and parents will someday point to what is happening in the mortgage market today and use it as a cautionary tale of what can go wrong when a buyer stretches to get too much house during a market that seems invincible.
Real estate has been booming in most markets over the last five years or longer, fueled by interest rates that reached four-decade lows and by consumers who used new mortgage products to extend their buying power. Many home buyers stopped worrying about buying a home and instead worried about their ability to pay for one; rather than shopping for a deal that allowed for a lifetime purchase, they looked for a mortgage that allowed them to buy the most home for the lowest current payment.
So long as rates stayed low and housing prices continued to move up strongly, that strategy was a good one. And those things kept happening, so that homebuyers ignored the warnings issued by many mortgage experts about what would happen when times changed.
Well, times have changed.
The popularity of adjustable-rate mortgages means that nearly 25% of all outstanding U.S. mortgage debt is due for an interest-rate reset within the next two years, according to Economy.com, a Web site run by Moody's Corp. Some $400 billion in loans will get a new rate this year, and another $2 trillion are set to move in 2007.
Those moves won't be pretty. Just two years ago, the prime rate stood around 4%; today, it is more than twice that. As a result, payments on some ARMs will double too. The current forecasts from a number of experts have defaults on those loans increasing by 10%.
"There is no apples-to-apples comparison from the kind of mortgage someone could get a year ago and what they can get today," said Anthony Hsieh, president of LendingTree.com. "As rates rise on adjustables, there are steps people can take to reduce the sticker shock, but they're probably not going to be too happy with what they have to swallow now. ... They had a 42-year low in mortgage rates, but they were more concerned with how much they would have to pay each month than how much they could afford and buy a home reasonably."
Plenty of bad news
For someone who purchased a home using an ARM -- or taking advantage of some of the attractive teaser rates that were available over the last few years -- there is plenty of bad news if they need to refinance now. Obviously, that starts with current interest rates. Moving to a 30-year fixed-rate mortgage now means looking at rates north of 6.5%, and the longer a consumer waits, the bloodier that transition is likely to be.
But if the house was purchased recently -- and with the ARM keeping payments low -- there hasn't been much equity build-up; if the home is in a market that is now cooling down, the owner's equity is further impaired.
"People were gambling that their income would get to a point where it was high enough to pay for the home at some point," says Greg McBride, senior editor at Bankrate.com. "They also were gambling that the market would help them build enough equity that they could refinance if they needed to. Now they may need to, and those gambles aren't paying off."
Some of those consumers will become default statistics. Others will have to downsize, or change neighborhoods, in order to get a mortgage that is more affordable.
There's a problem with that "smaller house" strategy too, at least in markets where prices are on the decline. A homeowner who put little down and who built little equity -- and who lives in a market where prices are on the decline -- may find that a small step back is not sufficient to actually cut mortgage payments.
How bad is it?
McBride suggests that consumers who are facing adjustable-rate sticker shock should try to determine now just how bad the movement might be. From there, they can decide if it's time to make a change so that they don't get slammed.
Many adjustable-rate mortgages include annual and lifetime caps on the interest rate that can be charged, so homeowners may not see the full impact of sharply higher rates immediately. A 2-percentage-point annual cap is fairly common.
To see how bad an adjustment hit might be, consumers should look at their mortgage paperwork to see when the reset occurs, the rate that the mortgage is tied to and then the margin that is used for the adjustment.
The Libor rate, for example, has moved from roughly 4.2% a year ago to about 5.6% today. A mortgage that is pegged to Libor plus two percentage points, therefore, will adjust up to about 7.6%.
A homeowner looking at that kind of rate could refinance into an average fixed-rate deal and be better off. Says McBride: "There is still time to get off the tracks before the train gets closer, but people need to act now. A 7% mortgage today beats an 8% refi a few months from now.
"People's choices are only going to get uglier, and plenty of people are on their way to trouble. ... For everyone who has avoided this trouble, they're going to look back someday -- when their kids are looking for a mortgage and are tempted to stretch too far by using an ARM -- and have stories to tell about how they saw a time when everything that could go wrong with that strategy did go wrong."
Chuck Jaffe is a senior MarketWatch columnist. His work appears in dozens of U.S. newspapers.
"Some $400 billion in loans will get a new rate this year, and another $2 trillion are set to move in 2007. * * * Those moves won't be pretty. Just two years ago, the prime rate stood around 4%; today, it is more than twice that. As a result, payments on some ARMs will double too."
Foreclosures are going up every month. Soon to reach log jam proportions. Already, television ads are pushing buying foreclosures as the next big house flip get rich quick scheme. But wait until this time next year. Are you getting the picture, yet? Whatever Or just check my FR page if you want to learn a bit more. For all the naysayers out there: "Nothing to see here. All is fine in my neck of the woods. I'm so tired of this bubble media hype. Lock your doors and windows. Time to move on."
I knew this was coming...that's why I sold my house late last year for a hefty profit, and am renting until this whole mess blows over...probably by 1Q or 2Q 2007.
You must be in the real estate or mortgage game . . .
Well, in some markets they had little choice as long as they felt they just "had" to buy a house. The ubiquity of these mortgages pushed what would in normal circumstances have been moderately priced homes up to very high levels, because everybody was getting an ARM. The proper response was for people to simply walk away from those bad deals and keep renting until the market stabilized. But that would have flown in the face of the American Dream (copyright 2004 - Ameriquest Corp.) and so was never considered as an option.
No, just the anti-goldbug, anti-anti-free-trade, anti-minimum-wage-hike, anti-anti-fiat-currency, anti-anti-investment game.
Just Check This Out, Dude Nada por nada. Whatever.
The 500K to 1mill houses around here are going up for sale at a huge clip. These are new sections and have only been occupied for one to three years. Our Saturday real estate news is getting to book size.
We also have an increase in auction notices.
There. I'm done.
Phoenix has always had a lot of high-end rentals available, which you could get good deals on if you agreed to rent for a year. (Think of the resorts in winter going begging in summer.)
With the advent of ARMs things got even worse--most 'renters' were busing buying inflated housing prices: e.g. one acquaintance whose home went in value in 1 year from $160,000 to $280,000.
So the rental places got desperate. I locked in rent for two years, at a lower rate than before the crisis.
Will wait to pick up a nice foreclosure (here or elsewhere) for a steep discount. Remember that sub-7-percent mortgage is still very low by historical standards.
"Buy low, sell high".
We hit the trough with a 5.25% fixed .... but spinning the cylinder with one chamber filled (ARM) was never an option.
Buying in the Houston market was also a plus ... only properties inside the inner loop are overpriced. I've got plenty of house, plenty of yard and a 20-25 minute commute.
Right on. Same here. Took a 5.75% in 1998. Told the loan officer to stuff the ARM. Now home prices are going nuts in Salt Lake, too. I can't believe the prices I'm seeing demanded by sellers now. Maybe when the correction hits I can pick up a nice foreclosure.....
"People were gambling ... "
And most gamblers lose, sooner or later.
Let me know if I need to explain this to you.
Refinanced my 30 year 8.25 three years ago with a 15 year 5.5% fixed. If I sold and bought the same house or similar house I'd be tripling my property taxes. Here in Fla property taxes cannot increase more than 2% on an annual basis so I'm still paying close to what I was paying back in the early '90s. Those who bought within the last few years are paying thousands more in taxes for a similar home because of appraisals based on ever increasing market values. Having an ARM, watching your home value drop and still having to pay triple the property taxes of your neighbors who've bought in the 90s is more than sobering.
oh no...we are doomed again...just for today...
Here's an excerpt from a So Fla article today. Homeowners are also getting slapped with skyrocketing hurricane insurance premiums. If the legislators get tough then the insurers will pull out of the state.
"State failures leave policyholders without a net"
By Kathy Bushouse
South Florida Sun-Sentinel
August 6, 2006
Florida's property insurance market is a mess, despite legislators' attempts to fix it for more than a decade.
The price of home and condominium insurance has soared to dizzying levels. Insurers have dumped longtime customers and slashed coverage for others. The state's home insurer of last resort now is the biggest property insurer in Florida.
More and more homeowners and businesses are forced to ponder whether they can afford the Sunshine State anymore.
Much of this is the Legislature's handiwork
But, then, most people would understand what Iran's and al Qaeda's real motive is aimed at today: To raise asset prices and commodities to outrageous levels by means of terrorism and reduce the value of the USD. If you are aware of what is really happening today, then you may have made hundreds of thousands in currency trading.
"But, then, most people would understand what Iran's and al Qaeda's real motive is aimed at today: To raise asset prices and commodities to outrageous levels by means of terrorism and reduce the value of the USD. If you are aware of what is really happening today, then you may have made hundreds of thousands in currency trading."
I think al Qaeda is more ideologically driven. However, Iran, Russia, China, Venezuela and others are in it to manipulate the markets and destabilize our economy even if it requires using proxies like hezbullah to do it. As for the gol-oil link, I'm not seeing it. I'm long energy and big pharma and short discretionaries...my favorite being Whole Foods Market which to me is a liberal freak show since they refused to carry and sell live lobsters under the guise of animal cruelty.
Is that going to be nationwide? When will this happen?
Of course, they are famous naysayers on FR.
I see you haven't lost your sense of humor.
You have a link to this evidence?
In the meantime, perhaps it would be worthwhile for me to explain to *you*:
The trend is going in the direction of more foreclosures.
While that does not prove that things are going to snowball, it might be a first step, and thus bears watching.
Few people remember the late 1970s. At that time, I got a 10% mortgage loan only because it was a VA loan. I had friends with conventional mortgage loans that were as high as 14%. (During Jimmah Cahtah's Presidency, the prime rate went to 22%.)
That offer was more for Ex-Texan. He likes to link to articles that make the opposite point of what he intends.
The trend is going in the direction of more foreclosures.
After years of record low levels of foreclosures, I wouldn't be surprised if levels increase.
it might be a first step,
Bravo, you haven't had the ex-Tex kool-aid.
I can feel sorry for them. I was lucky enough to be able to mature in a culture that only lent to the creditworthy. I'm in good shape, but looking around at this highly-leveraged home economy, I'm scared. And I'm mad as heck at the profligate lending practices.
By the time I qualified for credit, I was at least a grownup. That was when it was hard to get a department store credit card of any kind, and you really had to be established to get a bank credit card. Today--They seduce college kids into debt--kids who are legally of age but have no income!
And every other commercial on TV is another seduction into overspending and debt--I just saw one advertising "interest only" loans.
If i'd had all this "free money" dangled in front of me when I was young and inexperienced, I wonder if I might have fallen prey.
Banks need to return to lending only to the creditworthy. They are professionals, and should be held to professional standards.
The max is 3% on homesteaded property only. Taxes are unrestricted on investment/nonhomestead. Our local redneck county commissioners publicly take delight taxing out of staters to death. What's left unsaid is that business and employment growth are abysmal.
Unfortunately for him, I don't think DailyKos links are allowed on the News forums.
RE has already gone down 20% in many parts of CA.
I'd rather have "redneck" commissioners doing the legislation than the bonehead liberals I've got sucking the blood out of my city and my pocket. As for how "out of staters" are getting fleeced, you'll have to explain that one to me. Primary residences in Fla can be homesteaded and cannot be touched by creditors. Fla is a debtor state going back to reconstruction to protect it's citizens from carpet bagging Yankees.
Reading your post more carefully, I understand where you're coming from and agree with your position. We've had so much Carribbean and third world immigration over the last 30 years that county and city politics is craven to the tax and spenders who are running things into the ground.
Did you smoke weed, drop acid and drink booze like Teddy Kennedy when you were younger? Did you have sex at the drop of a hat, rack up abortions like it was a sport, and build up an immunity to all but the worst sexually transmitted diseases because you were exposed so often to them? Did you drop out of high school because it was "easier" to not go to school? If you went to college, did you blow off most of your classes and make Animal House look like reality?
I'm just going to guess that the answer is no. But a lot of folks did when they were "at that age". Kind of like the same folks that make the stupid decision to reach for the "free" money that dangles all around them today. There is a reason some people succeed in this country while others spend a lifetime digging themselves out of holes. I admire those who succeed. And I really don't feel sorry for those who make decisions that result in their failure. We were all young and stupid once.
I like getting upset as much as the next guy, but somebody's going to have to tell me just what it is that's making the world end this week.
What we've got here are ain't-it-awful news stories coming out of California (so?) while nationwide the average homeowner has been seeing mortgage debt falling as a percentage of home value. For me to be able to say that average Americans have "overextended their credit" I'd have to either love slandering Americans or hate studying them.
Cherry picked bad news factoids may be a staple for the DBM, but for serious business decisions we need serious data plots for the nationwide trend for foreclosures --which is down, along with other forms of consumer credit delinquencies.
Nice try for using that misleading graph showing how dismal things are as "proof" of your point. That takes cajones!
You didn't hit the trough. Our mortgage is 4.5 % fixed for 10 years incepting May 2004.
That doesn't make sense. What do you gain by renting as opposed to owning?
Buy gold. Wait for gold and interest rates to peak. Sell gold and buy 15% treasuries.
Fortunes were made in 1980 and they will be made again. 2009 ? 2014 ?.
The Fed perpetrates this cycle on the backs of the middle class.
This time could be the mother of all busts (MOAB) due to unprecedented debt levels.
Many are projecting hyperinflation instead of deflation this time around.
Sorry to catch you last night just before bedtime, maybe now we've all had a good night's sleep and our morning coffee it'll be easier.
Please bear with me; I'm obviously missing something.
What I'm seeing is that over the past one and a half decades the average US household has gone from owing $30k on their $85k house, to now owing $65k on their $150k house. I'm seeing how our bottom lines have improved by $30k (btw that's real dollars we're talking about here), but you're seeing something else that you're saying is "dismal".
Off hand, my take matches with the fact that mortgage foreclosures have been leveling down for years now.
Only other possibility that makes sense is that you hate all lending and borrowing. A lot of people oppose any loaning with interest. Muslims do. Catholics did for centuries. A lot of good Americans still take that position. That's fine; it's just not my belief.
Scooping up my dogs crap is a more rewarding experience than reading ex-tex's fecal matter. At least the crap was useful dog food at one point.
Yeah ... 10 year notes are typically .6% - .7% lower than a 30 year note ... I just couldn't gag down the extra $800/month in the short term. Then again, I'll be paying on mine while you're taking vacations in the Bahamas.
Still, all in all, we were happy we took the plunge when we did.
This morning I woke up to find that he'd dropped some on my desktop in post 41, I was just glad I'd spotted it in time and I hadn't tracked across the living room carpet...
"RE has already gone down 20% in many parts of CA."
I gather that you are not aware that there is an important difference between "sales rate" and "sales price".
I hope this report, published by the C.A.R. will help clear that up for you:
"Tuesday, July 25, 2006
C.A.R. reports median price of a home in California at $575,800 in June, up 6.2 percent from year ago; sales decrease 26.3 percent..."
In other words, although the NUMBER of home sales in CA has declined, median home PRICES continue to rise.
IMHO, a person does not help his credibility by consistently getting his "facts" wrong.
"Few people remember the late 1970s. At that time, I got a 10% mortgage loan only because it was a VA loan. I had friends with conventional mortgage loans that were as high as 14%."
I was a pre-teen then and Dad had just finished his apprenticeships and got his first Really Important Job, so we moved from inner-city Milwaukee where we rented to a home in the suburbs around Madison, WI. (Man, were we moving UP in life, LOL!)
I remember my folks very clearly sweating over interest rates at that time, and the price of gasoline if you could get it. My Grandpa saved the day and financed the home for them at a much more manageable rate of return. Dad did the same thing for me when I bought my first home at 25, and I'll do the same for our son when the time comes.
I've owned six homes so far, and have always made money on real estate, either rental units or single-family homes. If you want to make money in real estate, the trick is to buy no more than you can afford to lose. :)
And stay OUT of the coastal markets; there is plenty of affordable real estate in The Heartland. It ain't Rocket Science. ;)
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