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Will Easier Lending Help Housing – or Hurt It?

Government Lenders Loosen Standrads

The US housing market is on the rebound – or is it? As housing prices rise, mortgage lending stays flat. Venerable government mortgage lenders Fannie Mae and Freddie Mac have a solution for that – but critics worry that it might trigger another housing collapse.

Fannie Mae, AKA the Federal National Mortgage Association, and its little brother Freddie Mac, the Federal Home Loan Mortgage Corporation, collectively account for the bulk of home loans serviced in the United States. They’re quasi governmental bodies that fell into deep crisis at the height of the housing collapse of 2007-2008, when many of the loans that originated with them fell into default.

Fannie Mae and Freddie Mac don’t issue mortgage loans directly to borrowers. But the majority of home loans in the country originate with one or the other of these two bodies along with the Department of Housing and Urban Development. Fannie and Freddie deal on an administrative level with lenders large and small to originate, buy and package loans as securities. Those securities are then traded in a variety of transactions among government ad private institutions.

Fannie and Freddie were put under conservatorship, with regulation and oversight by the federal Housing Finance Agency, which supervises the agencies’ lending practices and accountability. Both agencies can still handle loans, but their future is far from certain. As recently as early 2014, Fannie and Freddie were on track to be passed out as part of a bigger overhaul of the government’s involvement in the home loan industry

That measure stalled, and so Fannie and Freddie just keep rolling along. But since the collapse the two agencies have pulled back on mortgage lending across the board, issuing fewer loans in line with tighter government regulation of the mortgage industry in general.

Those regulations come as part of a broader attempt to clean up fraudulent and misleading practices in the lending industry. Those illegal practices came to light in a string of investigations and lawsuits conducted by the US Department of Justice against megabanks such as Bank of America and JP Morgan Chase. Those suits and settlements led to the creation of the Dodd Frank Act, a sweeping piece of legislation aimed at forcing lenders to write solid loans and protecting consumers form entering into loans they couldn’t manage.

Dodd Frank and its subsidiary acts imposed tighter standards on lenders of all kinds, with higher credit requirements, a lower debt to income ratio and down payment parameters that effectively locked out lower income borrowers – a move aimed at preventing the kind of crisis that led to the massive wave of defaults and foreclosures that created the crash.

But in the rush to stave off another catastrophic housing collapse, a new concern arose: these tighter standards for borrowing, combined with rising home prices, were actually contributing to a slowdown in home buying that threatened to stall the recovery.

What would keep the recovery – and by extension the economy in general – on track? More borrowing and more buying, of course. But the new regulations closed the door to large groups of potential buyers.

Making mortgages available to those lower income borrowers with more marginal credit meant easing back on the standards. The Federal Reserve pushed the Fair Isaac Corporation to revise its FICO credit scoring standards downward, so that some red flags no longer counted.

Now, the FHFA, under the direction of the White House and other regulatory bodies, is working on an agreement in which loans handled by Fannie Mae and Freddie Mac would require down payments as low as 3 percent. Borrowers could also qualify with lower credit scores and a few dings to their payment history.

The move would remove the very barriers to borrowing that, some say, triggered the collapse in the first place. Opening up mortgage lending once again to low income borrowers with a less than optimal credit history would create conditions for more defaults, more bailouts and ultimately, more foreclosures.

But this time around, say financial experts, more safeguards are in place. The mortgage industry is more accountable, with penalties for bad loans already in place. Consumers have more protections, too, with refinancing assistance and lenders’ more generous stance on missed payments. And the Federal Reserve is tapering down its large-scale stimulus program aimed at keeping interest rates low.

It’s too early to tell whether Fannie and Freddie’s proposed loosening of lending requirements will trigger the dire consequences some critics foresee. But in the short run, this kind of flexibility may be a boost to the housing market – and a way for investors to leverage the good debt of a fixed rate mortgage – just as Jason Hartman recommends. (Featured image: Flickr/EGlobeTravel)

Light, Joe. “Fannie, Freddie Near Deal to Lift Limits; Concerns Persist.” The Wall Street Jounrnal . wsj.com 17 Oct 2014

Read more from Heroic Investing:

Buy Cheap Real Estate? Str4ings Are Attached

Are Mega investors Grabbing All the Houses?

The Heroic Investing Team

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