On Thursday I wrote that the stimlus package signed by the President which temporarily raises the limit on conforming loans to 729K may not help people buy more house at a lower interest rate.
This is beacuse Wall Street has not figured what to do about this new category of loan. The 417K-729K Fannie Mae and Freddie Mac backed mortgage loans never existed before so no one
knows how to price them or how they are going to perform on Wall Street. Since I deal with a lot with high end luxury properties many of my clients want to know if this raise in limits will help them with jumbo loans. Below is
a great article I found this week from Matt Carter with Inman News. I think this explains what will happen with “jumbos” the best. It’s a little long but worth reading.
Jumbo loan borrowers may not see much relief on interest rates when Fannie Mae, Freddie Mac, and the Federal Housing Authority start buying and guaranteeing loans above the current $417,000 conforming loan limit, because the loans will be barred from the most important secondary market where mortgages are bought and sold.
The Securities Industry and Financial Markets Association announced that “jumbo light” loans of up to $729,750 that Fannie, Freddie and FHA were temporarily authorized to buy or back as part of the economic stimulus bill signed into law by President Bush Feb. 13 won’t be traded in the “to be announced” market where most conforming loans are sold.
SIFMA said allowing the new, larger loans to be included in pools of mortgage-backed securities (MBS) traded on the TBA market could raise rates on conforming loans because uncertainties about how they will perform could raise the costs or impair trades of all MBS.
The new class of loans will be traded separately, under unique pool codes or included in real estate mortgage investment conduit (REMIC) transactions, SIFMA said.
“SIFMA views this methodology as the most expeditious and least disruptive option currently available to facilitate securitization and secondary market activity for the higher balance loans, bringing added liquidity and rate relief to higher balance loan borrowers while not imposing additional costs or impairing the liquidity for loans falling within the pre-existing loan limits,” said Sean Davy, managing director of SIFMAâ€™s MBS and securitized products division, in a statement.
A spokeswoman for Fannie Mae said the government-chartered mortgage financer had no comment on the decision. A Freddie Mac official told Reuters the company had decided to put jumbo loans into separate pools before SIFMA’s announcement.
Placing jumbo loans in separate pools could delay the interest rate reductions that Congressional lawmakers had hoped to achieve by allowing Fannie, Freddie and FHA to back the bigger loans until the end of the year.
After the seizure of credit markets in August, investors largely stopped buying MBS not issued by Fannie, Freddie and also Ginnie Mae, which guarantees payment and interest payments on MBS backed by FHA insured loans.
Thatâ€™s meant rates on jumbo loans have been about 1 percent higher than conforming loans eligible for purchase or securitization by Fannie and Freddie. Allowing Fannie, Freddie and FHA to back loans of up to 125 percent of the median home price in high-cost areas was intended to address the shortage of funding available for jumbo loans and bring down rates on those loans.
But while guarantees from Fannie, Freddie and Ginnie Mae can help ease investorsâ€™ fears about lax underwriting standards and delinquencies and defaults, jumbo loans also carry a higher risk of prepayment, which occurs when borrowers refinance a loan to take advantage of lower interest rates.
By prohibiting the mixing and matching of loans that meet the current $417,000 conforming loan limit with the larger loans allowed under the temporary loan limit increases in MBS pools, SIFMA is allowing investors to weigh the risks posed by both types of loans separately, and price them accordingly.
SIFMAâ€™s decision protects borrowers taking out conforming loans from having to pay higher interest rates to compensate investors for the greater prepayment risk involved with jumbo light loans, but could prevent rates on the bigger loans from falling much in the short term.
Loans guaranteed by Fannie, Freddie and Ginnie Mae and packaged into MBS are sold on the “to be announced,” or TBA market, so named because investors have so much confidence in the underwriting standards employed by the firms that they will buy and sell the bonds months before the loans that are to be included in them are actually identified.
The certainty about the characteristics of loans included in TBA securities is what allows this forward trading, and makes the “to be announced” market “the most liquid, and consequently the most important secondary market for mortgage loans,” SIFMA said.
With MBS issued by Fannie, Freddie and Ginnie Mae accounting for more than 80 percent of all mortgage-backed securities, “the importance of the continued liquidity and smooth functioning of the current conforming loan market must be underscored in this time of broad disruption to financial markets,” SIFMA said.
In a Feb. 11 memo to sales associates posted on the blog Blownmortgage.com, SunTrust Mortgage executive Anthony “Tuck” Reed agreed.
“If anything happens to that certainty and our ability to sell TBA bonds for future delivery, weâ€™ve got big problems,” Reed said. “The industry would seize up — imagine last yearâ€™s liquidity crisis times ten.”
Reed predicted that if SIFMA required separate trading of MBS backed by the new jumbo light loans, interest rates on those loans might not go down right away. The premium on the new bonds “will likely drop over time as investors get comfortable (and) they understand the collateral,” Reed wrote before SIFMA announced it would, in fact, require separate trading of jumbo light loans. Inman News was unable to reach Reed for comment.
The stimulus bill also allows Fannie and Freddie to buy up the new jumbo light loans and hold them in their investment portfolios, although mounting losses at both companies have forced them to raise additional capital and could limit their ability to buy loans in the future.