With mortgage rates heading up, apartment buyers in Manhattan are changing the way they are borrowing to keep costs down.
Rising rates have changed the mix of loans now being made, say local lenders, who are seeing a migration from fixed-rate to adjustable-rate mortgages, or ARMs, and a drop-off in refinancings.
The mortgage industry also has its eye on what sort of dramatic rise in rates would cool the residential real estate market, or cause lenders to pull back on programs providing high loan-to-value amounts. Some say rates of 8 percent would spell trouble for the market.
Local rates climbed a full percentage point between late March and late May, with the 30-year fixed at 6.4 percent at the end of last month.
Jeffrey Appel, managing director of mortgage broker Manhattan Mortgage Company, said the rise in rates in the past two months has wiped out about 18 months’ worth of accumulated rate reductions in the recent past.
“It has put us back about 18 months,” he said.
Unlike fixed-rate mortgages, ARMs typically allow borrowers to pay a lower interest in the period before the “adjustment” occurs, and buyers have started to clamor for this type of financing, said Steve Schnall, president and CEO of New York Mortgage Company. The Mortgage Bankers Association, an industry trade group, said 35 percent of all mortgage applications nationwide were for ARMs in the last week of May.
In particular, Schnall notes a growing drift toward “interest only ARMs,” especially at the high-end super jumbo market, where owners are able to pay just the interest on very expensive properties in the period before the adjustment occurs.
Higher rates also slowed the refinancing binge of the past year.
Refinancings as a percentage of total mortgage transactions shrank over the past few months on a nationwide basis, and were down 6.7 percent during the last week of May compared to the week before.
Mortgage originations overall should total about $2.4 trillion in 2004, about 46 percent below 2003’s record volume and 13 percent below 2002, according to a recent report by Freddie Mac.
The share of refis is expected to come in at about 40 percent of all mortgage originations in 2004, compared with shares well above 50 percent the last three years, the report said.
Robert Hochberg, president of mortgage broker Hochberg & Holland, said higher rates have shifted the motivation for refinancing toward merely cashing out money on equity and away from the desire to secure lower rates.
Appell also noted that more homeowners would probably be opting for home equity lines of credit (HELOCs) as opposed to refinancing. This way, they would save more money using a variable rate on the smaller HELOC loan than the higher rate on a refinanced fixed-rate loan.
Most observers believe further interest rate appreciation is likely. With the economy growing at more than 4 percent and inflation rising, Greg McBride, senior financial analyst for Bankrate.com, said the economic environment dictates higher short-term rates and also long-term rates.
But Hochberg said he was waiting to see if recent employment numbers were backed up by further growth, signifying a trend, rather than a statistical anomaly. He said a reading of the next employment numbers to be released June 4 would give a clearer answer to whether job growth has really picked up, as many believe. Hochberg noted the situation in early March, when disappointing employment numbers sharply knocked mortgage rates off their upward trend. Plus, he said he worries about the current rise in gas and food prices, which might affect consumer confidence and impact retail sales, causing rising payrolls to level off. Overall, he wouldn’t bet on rising mortgage rates.
To cool down the real estate market in New York, characterized by low inventory, Appel said mortgage rates would have to rise as high as 8 percent. He added that to correct the market from the current 6:1 buyer-seller ratio to a 1:1 situation, many of the large number of marginally qualified buyers would have to be forced off the market by rates as high as that 8 percent, a situation he does not foresee before the middle of next year.
But while the real estate market may be resilient to rising rates, mortgage financing might not remain as available as it has been. Schnall predicts that if higher interest rates cause more defaults on loans, lenders might pull back on programs providing 100-percent financing on loans, or high loan-to-value amounts. “I suppose there’s a correlation between higher interest rates after a period of rising rates and defaults and of course a tightening of credit after that,” he said.