Crisis-Induced Changes in Borrower Interests

May 24, 2010, Reviewed June 21, 2011

“…has there been any significant change in the interests of your readers since the financial crisis?”

I recently compared the web pages that visitors to my web site looked at in April, 2010 as compared to the pages they accessed in April, 2006, the year before the crisis.  

Less Interest in Interest Only

One of the most popular articles in 2006 was my tutorial on interest-only (IO), an option that allowed borrowers to avoid paying principal for 10 years. The IO was a popular way to increase the amount of house a buyer could afford – usually against my advice.

A large proportion of those who took IOs earlier now owe more than their houses are worth, and the price increment charged by lenders for the IO option today is much higher than it had been before the crisis. There is a realization that IOs are riskier than loans that amortize, for both borrowers and lenders.  Not as many loan officers and mortgage brokers recommend IOs today, and not many of the visitors to my site today click on the IO pages.

 Increased Interest in Lease-to-Own

An article that is very popular today, much more so than in 2006, is on “lease-to-own”. This is an arrangement under which a home is leased but with an option to buy within some stipulated period. See Lease-to-Own House Purchases.

Home sellers today who are having difficulty selling in a slow market may be interested in lease-to-own as a way of encouraging a future sale, generating rental income while they wait. Would-be home purchasers who have seen their credit scores decline because of payment problems, or who can’t meet the higher credit scores and down payments required today, are attracted to lease-to-own as a possible avenue to home ownership. The sub-prime alternative route has been closed and will stay closed indefinitely.

 Increased Interest in Making Extra Payments

In a major shift in reader interest, one of the 45 calculators on my site drew more users in April than any article, and ten times as many as in April 2006. This was the “Extra Payments” calculator 2a, which will recalculate an amortization schedule for any configuration of extra payments the user wants to try. The current market has generated multiple uses for this calculator.

Investment Planning: Many mortgage borrowers have come to realize that paying down their loan balance is the only riskless investment available today that yields more than 1-2%. Extra payments are an investment that yields the mortgage rate compounded monthly, with no default risk. Calculator 2a allows borrowers to try out various strategies for accelerating the pay-down of their balance.

Not all borrowers see this, I still receive letters asking whether or not they can pay down their mortgage faster by putting the extra payments in the bank. The answer is “no”, if your mortgage rate is 6%, a bank would have to pay you 0.5% a month to match the savings derived from paying down the balance.

Removing Mortgage Insurance: Price depreciation over the last 3 years has reduced home buyer equity – property value less loan balance. Among other things, this delays the termination of mortgage insurance (MI), unless the borrower rebuilds equity by making extra payments. Equity lost through price depreciation can be rebuilt through balance reduction. Calculator 2a allows borrowers to find an affordable pattern of extra payments that over some period will reduce the balance to the level needed to terminate MI.

Obtaining the Best Price on a Refinance: The financial crisis has made mortgage refinancing more attractive by reducing interest rates on prime mortgage transactions. At the same time, equity depletion has converted many transactions that would have been prime before the crisis, into less-than prime. Further, the larger risk premiums demanded by lenders has increased the price differences between prime loans and those less-than-prime.

A transaction that is less-than-prime because of insufficient equity can always be made prime by some reduction in the loan balance. Calculator 2a allows borrowers to develop an extra payments plan that reduces the balance to the level needed to make the refinance a prime transaction.

Converting Jumbo to Non-Jumbo: Another consequence of the financial crisis has been to increase the price difference between standard conforming loans that can be purchased by Fannie Mae and Freddie Mac, which cannot exceed $417,000, and loans that exceed that amount, called non-conforming jumbos. In addition, with conforming size limits temporarily increased up to $729,750, depending on area, we have conforming jumbos, which are priced higher than conforming standard.

Refinancing borrowers with balances only moderately above either the conforming standard maximum or  the conforming jumbo maximum have a strong financial incentive to pay down the balance to those amounts before refinancing. Calculator 2a can be used to plan the pay-down strategy.

 

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