It’s bleak out there. Can you imagine how much bleaker it would be if the U.S. mortgage market weren’t doing its thing to prop up the economy?
The mortgage market is helping healthy borrowers take advantage of lower interest rates to improve their personal balance sheets. And it is helping struggling borrowers by offering generous loss mitigation options.
The mortgage market plays a unique role in the U.S. economy. It is a hybrid consortium of originators, guarantors, investors, and policymakers intent on offering competitive rates in a transparent market structure—a structure that is the beneficiary of both good government policy and a robust, competitive private marketplace.
The mortgage market’s pro-cyclical role in the U.S. economy allocates credit and interest rate risk among borrowers, investors and the federal government. When the government’s interest rates go down, so do mortgage rates.
March 2020
COVID-19 turned the world’s economies on their heads. Once strong growing economies ground to a stop. By mid-March, the negative effect of the pandemic in the U.S. was clear, with sharply rising unemployment claims and a declining Q1 GDP. COVID-19 did not spare the mortgage market. Fear of borrower defaults led to a freezing up of the credit market, which in turn fueled anxiety among mortgage servicers, guarantors, investors, and originators.
The U.S. government and Federal Reserve responded quickly. Applying lessons learned from the 2008, they initiated housing relief programs early. Congress immediately passed legislation enabling forbearance and eviction protection programs to borrowers and renters. The Federal Reserve promptly cut interest rates to near zero while using its balance sheet to quell market concerns and ensure liquidity.
The FHFA’s Credit Risk Transfer program worked as intended, sharing with willing investors the credit risk uncertainty and, in due course, the resulting credit losses. By April, the mortgage market’s guarantors—Ginnie Mae, Fannie Mae and Freddie Mac—imposed P&I advance programs on servicers and investors, thus ensuring the continuation of the mortgage servicing market.
Rallying the Troops
Boy, it was a tough spring for the industry. But now all the pieces were in place:
- New legislation to aid borrowers
- Lower rates and market liquidity from the Fed
- P&I advance solutions and underwriting guidance from the Agencies
The U.S. mortgage market was finally in a position to play its role in steadying the economy. Mortgages help the economy by lowering debt burden ratios and increasing available spendable income and investible assets. Both of these conditions contribute to the stabilization and recovery of the economy.
This relief is provided through:
- Rate-and-term refinances, which lower borrowers’ monthly mortgage payments,
- Purchase loans, which help borrowers capitalize on low interest rates to buy new houses, and
- Cash-out refinances, which enable borrowers to convert home equity into spendable and investable cash.
Mortgage origination volume in 2020 is now projected to reach $2.8 trillion—a 30% increase over 2019—despite 11% unemployment and more than 4 million loans in forbearance.
But near-term issues remain
It would be a misstatement to say all things are great for the U.S. mortgage market. While mortgage rates are at 50-year lows, they are not as low as they could be. The dramatic increase in volume has forced originators to raise rates in order to manage their production surges. Mortgage servicing rights values have plunged on new originations, which also leads to higher borrower rates. In other words, a good portion of the pro-cyclical benefit of lower interest rates is not actually making its way into the hands of mortgage borrowers.
In addition, the current high rate of unemployment and forbearance will ultimately come home to roost in the form of elevated default rates as the economy’s recovery from COVID-19 continues to look more U-shaped than the originally hoped for V-shape. Any increases in default rates will certainly be met with new rounds of government intervention. This almost always results in higher costs to servicers.
Long-term uncertainties
The pandemic continues to wreak havoc on people and economies. Its duration and cumulative impacts are still unknown but are certain to reshape the U.S. mortgage market. Still unanswered are the growing questions around how the following will affect local real estate values, defaults, and future business volumes:
- The emerging work-from-home economy
- Permanent employment dislocations from the loss of travel, entertainment, and retail jobs
- Loss of future rate-and-term refinance business because of today’s low rates
- Muted future purchase volumes due to high unemployment
Notwithstanding these uncertainties, the U.S. mortgage market will play a vital role in the economy’s rebuilding. Its resiliency and willingness to learn from past mistakes, combined with an activist role of government and its guarantors, not only ensure the market’s long-term viability and success. These qualities also position it as a mooring point for an economy otherwise tossed about in a turbulent storm of uncertainty.
