Saturday, February 16, 2008

Jumbo Help: New Rule Could Mean Rate Relief on Big Loans

(WP) Anna Galloway keeps a watchful eye on interest rates and stays in touch with her mortgage broker because she is eager to refinance the "jumbo" loan on her Charles County home.

"But I haven't even bothered to try to refinance yet because I know the jumbo rates are too high right now," said Galloway, 37, a D.C. legal secretary. "I'm just waiting and watching for any sign that the interest rates will drop."

That drop may be coming soon.

The economic stimulus package that President Bush signed this week includes provisions aimed at pulling those rates down and reinvigorating a part of the mortgage market still stunned by problems with subprime borrowers that surfaced last year.

Jumbo mortgages -- those that exceed $417,000 -- got expensive as the credit crisis worsened. Rattled investors stopped buying them. Lenders responded by raising rates. And plenty of people in high-cost areas such as Washington got shut out of the housing market or, like Galloway, lost their chance to refinance into cheaper loans.

As part of the stimulus package, the mortgage giants Fannie Mae and Freddie Mac will be allowed to buy or guarantee mortgages up to $729,750 for single-family homes. That's up from the previous $417,000 cap, which was tied to the average home price nationwide. The amount would vary so that the most expensive areas would qualify for bigger loans. The stimulus package also increases the limits for loans insured by the Federal Housing Administration.

The idea is that investor appetite for these larger loans will grow if they have backing from Fannie Mae and Freddie Mac. The two companies are federally chartered, which means many investors treat their loans as if they have the government's implicit guarantee. Fannie Mae and Freddie Mac mortgages are about the only ones investors are buying these days, which is why policymakers wanted jumbos added to the mix.

Mortgage industry experts said the change should encourage lenders to lower jumbo rates. But they disagree on how low and on whether the benefits will be widespread enough to bolster the housing and mortgage markets, especially because the higher caps will be in place for a limited period, through the end of this year.

"The most we can say right now is that there will be some opportunity for some borrowers to achieve perhaps some interest-rate relief on their jumbo mortgages," said Keith Gumbinger, a vice president at HSH Associates, a mortgage research firm.

A lot of the details have not yet been determined. Under the new plan, the Fannie Mae and Freddie Mac loan limits will be set to 125 percent of the median home price in every metropolitan statistical area. Within these parameters, the limit cannot drop below $417,000 or exceed $729,750.

The Department of Housing and Urban Development is in charge of calculating the limits; it's expected to tell lenders next month what the limits are in various areas. It will take several more weeks before Fannie Mae and Freddie Mac can begin to purchase the loans; first they must sort through internal logistical and operational issues.

Many analysts expect limits to increase in about 20 metropolitan areas, mostly pricey markets on the East and West coasts. Federal regulators declined to comment on what they expect the loan limit to be in the Washington area, or on what geographic definition of the region they will use.

But the Stanford Group Company, a policy research firm in the District, estimated that if the cap is based on median prices compiled by the National Association of Realtors, locally it would be about $500,000 and would apply to an area that extends into West Virginia.

"While not every American is going to get to enjoy a higher loan limit, what makes this program exciting is that those who need the assistance the most are going to get it," said Jaret Seiberg, an analyst at Stanford Group. "There are markets where the average home price is well below $417,000, so they do not need any kind of boost."

Lower rates would help Galloway, the Charles County homeowner. She owes about $448,000 on her house. She has an adjustable-rate mortgage and wants to refinance before that loan resets, possibly to a higher level.

But just as she was about to get a new loan, the jumbo rates started climbing and never stopped. In the past, lenders charged about 0.25 percentage point more for 30-year, fixed-rate jumbo loans than they did for smaller loans that conform to Fannie Mae and Freddie Mac standards. But the spread has widened since August to nearly a full percentage point, according to HSH Associates.

Last week, the rates on conforming loans averaged 5.77 percent, while those on jumbo loans averaged 6.7 percent.

Although the aim of the changes is to reduce that gap, investors have become so skittish about jumbos that there's no telling how they will react if the large loans are mixed in with more traditional conforming loans, several industry analysts said.

Why should the average consumer care how investors react?

Because when Fannie Mae and Freddie Mac buy these loans from lenders, they sell them to investors on the secondary market.

If investors feel that the larger loans inject too much risk into the pool of mortgages offered to them, they will demand a higher yield, which translates to higher rates for borrowers, said Ajay Rajadhyaksha, head of U.S. fixed-income strategy at Barclays Capital.

The perceived risk is not a creditworthiness issue, Rajadhyaksha said. Rather, it's the jumbo borrowers' well-documented fondness for refinancing when rates drop, which forces investors to reinvest the money at a lower rate.

"The investor will still be wary of [jumbo loans] even if they come with a Fannie or Freddie guarantee," Rajadhyaksha said. He said he expects the spread between existing jumbos and conforming loans to return to about 0.25 percentage points.

Nicolas Retsinas, director of the Joint Center for Housing Studies at Harvard University, said the spread could narrow from about a percentage point to 0.50 to 0.75. "That can be a pretty big number because we're talking about markets with expensive homes."

For instance, a half-percentage-point drop in the rate on a $500,000 mortgage shaves about $200 off monthly payments, said Retsinas, who serves on Freddie's board.

But even if rates drop, not everyone will be able to take advantage of them, Retsinas said. Potential borrowers with less-than-stellar credit will be turned away from any kind of loan these days, as will people who owe more on their mortgages than their homes are worth.

Galloway said that she fits the profile of an on-time borrower lenders want to work with and that she can't wait to see what the new loan limits might mean for her family.

Galloway and her husband have four children, ages 8 to 18, and the oldest is headed to college.

"At this point, I'll take any savings I can get," she said.

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