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Fannie and Freddie; Oh Yea. July 11, 2008

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The internet has gone bonkers over the latest reporting that the administration has developed a plan in case Fannie Mae and Fredie Mac have liquidity problems.  Meanwhile regulators say there is no such danger at the two major mortgage buyers.  So what is it, the begginning of a depression, like the internet philosophers think, or contingency planning?

My best guess is Freddie and Fanny will survive intact and their stock prices will go up dramatically but not immediately.  After all comforming loans, the one’s that F & F buy, still has a foreclosure rate of less than 1%.  So why all the teeth knashing?  Because of a change in accounting rules and the drop in real estate values.  F & F needs to have a small amount of reserves to cover the foreclosure losses.  Since there is uncertainty how much those losses might go to, the market has reacted with a vengence dropping the stock prices down to almost nothing. 

Remember any loans made and bought by these two that had a loan to value of over 80% had to have mortgage insurance.  So F & F has a 20% cushion.  Oh, you say real estate values have dropped over 20%.  Well yes, from peak pricing to now, but only a small percentage of folks bought at the peak.  Bottom line for conforming loans 98% still have positive asset value compared to the loan value. 

So let’s put it all together; 1% of conforming loans are in foreclosure, 98% of loans have a positive loan to asset value combined with the insurance,  real estate values are starting to descend less abrubtly (not enough months data to call this a trend), regulators insist that F & F have proper capitalization.

Seems to me to be a safe bet, that this is a stock market issue, not an issue of these companies going out of business.  But the future will tell us!

EDIT:  Apparently I missed the fact F & F bought some sub-prime and alt a bonds.  15% of their portfolio is in these two areas.  However, they report that these are the cream of the crop for sub-prime and alt-a and only .62% of their portfolio is in serious delinquency (90 days past due).  Bottom line, original thoughts still hold, even though losses might mount for the sub-prime area.  Mea Culpa for the wrong info.

Getting a mortgage today; What does it take? April 24, 2008

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Fannie Mae has now eliminated its stated income program.  This has happened on the heels of most lenders getting rid (at least temporarily) of their alternative programs which allowed stated income loans.  But just as you think this program is dead, a couple of lenders has started to bring back its alternative programs with stated income loans.  This makes perfect sense because stated income loans were not the problem above a certain credit score.  So if you have credit scores above 680, there are now stated income programs for you.

Now here is the kicker, and really the crux of the problem.  Required loan to values have gone down and this is especially acute with the stated income programs.  Expect to have to put at least 15% down for stated income programs.  And if you are in a market with declining values add another 5% to that.

Finally, some sense is starting to settle into the mortgage market.  When you look at the foreclosure rates it is really the 95%-100% loan to value loans that are causing the majority of problems.  Variable rate loans are not, repeat not, causing the majority of problems unless they are connected to high loan to values.  Stated income loans for folks with high credit scores are not causing the problems.  And especially SIVA programs (stated income, verified assets) are doing just fine.

But of course that makes sense.  Past behavior is a great predictor of future behavior and those with a history of paying their bills on time tend to continue that behavior.  Those that have savings and other assets tend to be in better position to handle problems like job layoffs, sickness, etc.

So as equilibrium comes back into the mortgage market, here are four things you need to have in order to get a loan.  Savings, enough to put down a 10% down payment.  Even though there are still some programs that allow you to put down less, by putting down 10% you have shown the ability to save and be fiscally responsible which puts you into a lower risk category and makes loans cheaper.  And credit.  Check your credit report.  Make sure it is accurate.  Go through the process of getting the agencies to make corrections on inaccurate information now because it takes time and energy to accomplish.  Pay off outstanding debts (except medical), even though this might temporarily suppress scores.  FHA will make you do it anyway if you want a loan from them.  Fannie Mae now puts a surcharge on folks with mediocre scores.  Get them up past 700.  And retirement funds.  Start the 401K at work.  Once again to an underwriter if you have both savings for a down payment and some retirement funds you are a much better risk.  Finally, start a relationship with a mortgage planner.  One that is willing to tell you the truth, one that thinks like a financial planner and insists on you getting your personal finance house in order first.

This used to be the way it was.  The banks and lenders got away from that and it has cost them big time.  It has created a real estate market that has its worst boom and bust ever.  Don’t expect it to go back to the way it was anytime soon.  But of course, this is the way it should have always been.  Buying a house is critical to one’s financial health, but not every one is ready for this major liability.  Get ready and then make the move!

Foreclosure Lessons Learned April 18, 2008

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There seems to be a forgotten point in all the stuff written about foreclosures and sub-prime loans.  Sub-prime loans were never meant to be the last loan folks got. They were designed to be a bridge loan, bridging the time it took to get your credit scores up to a point where you could qualify for a better loan.  That is why so many folks went the variable rate route.  Now, I am on record saying that a variable rate for folks with a poor credit history was not prudent, but if did give folks a modicum of time to save some money and get credit issues taken care of.  The fact is thousands of folks continued their behavior and did not take care of their credit, which locked them out of changing their loan to better rates.  And of course this added downward pressure on real estate values, further eroding their ability to refinance into a better loan.

We could of probably avoided a whole lot of teeth knashing and victimization if things were done right at the highest level and these people with poor credit history and no savings were never allowed to buy homes.  There would have been less upward pressure on home values 2002-2005 and then less downward pressure 2006-2008, therefore a more even market climb.  But just like the stock market 1999-2001 where people were paying exorbitant amounts for stocks with no or little earnings we need to be taught a lesson every now and then.  Here it is.  When it comes to stocks earnings do matter and when it comes to loans past behavior of borrowers matters.  Pretty simple when you put it like that!  

Here in Florida last months forecosure rate dropped significantly.  This might indicate that the worst is over for us.  The economy has a way of working itself through issues.  Hopefully, this is what is happening now! 

Trouble in FHA Land! April 9, 2008

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Well you knew it was going to happen.  FHA is reporting that it will go into the RED this year for the first time ever in its 74 year history.  No doubt we the tax payers will be picking up the bill (as much as $1.8 Billion) soon.  Now FHA has always paid its own way in the past, so what is going on?

Well, its really the same old story.  First, a quick review of how this program works.  FHA a quasi government entity insures loans for folks with low FICO scores and little down payment money.  In short FHA loans only require the buyer of real estate to put down 3% plus a funding fee meant to cover potential losses and of course closing costs.  This was a solid program for first time home buyers and lower income folks.  However, starting in 2000 it was not the best deal around.  At that point sub-prime mortgages were actually less expensive and allowed for 100% financing sometimes even financing closing costs.  There was no funding fee for subprime mortgages.  So folks with little money and poor credit scores switched from FHA funding to sub-prime mortgages from 2000-2006.  However, there was one part of the FHA program that was popular; the seller financed down payment assistance program.  In 2000 this part of the program represented only 2% of all FHA loans but blossomed to over a third of the program by 2007. 

Here is how it works.  The seller pumps up the sales price of the home, say 5%.  A third party program comes in and makes a gift of the 3% down payment requirement and closing costs.  At closing the seller then refunds back to the company the additional 5% that the seller added to the purchase price.  Pretty nifty, huh!  The buyer gets a FHA loan without having to come up with any money!

Well, turns out that people involved in the seller financed dp assistance programs are foreclosing at 4 times the rate of the other FHA folks.  So the funding fee’s designed to cover the historical foreclosure rate for the FHA program is not enough to cover the program.

Of course consumer advocates defend this program.  And a perfectly good program that is self financing is looking for a bailout because of these no downpayment folks.  And what did it take to accomplish these loans?  Well a appraisal that is higher than the agreed upon price!

Starting in the 1990’s there was alot of pressure put on lenders to start lending to minority folks at the same rates as white folks.  There was also much pressure to lend in area’s with depressed real estate.  Finally, there was pressure to increase the percentage of home ownership in this country.  Now all of these ideas are morally correct ideas.  We should not discriminate, we should try to increase home ownership, and we should not red-line.

But, the way it was done is to lower credit requirements, reserve requirements and down payment requirements.  We now understand where those requirements should not go.  It is among folks who put little or no money into purchasing real estate and had credit problems and had little or no reserves where the foreclosure problems reside.  It is that simple folks. 

Now, unfortunately, the pendulum has swung the other way.  People with reasonably good credit and a little cash are being held out of the market or at the very least have to pay much more to get into the market.  Interestingly, FHA loans are on the upswing with the sub-prime market gone.  But with a third of them going to the Seller financed DP Assistance Program we are only adding to the government bailout that is going to be required.

Oh, I am sure we will hear about all these folks who were victimized by being able to buy real estate with no money and poor credit!

Money Merge Accounts??? March 19, 2008

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I will make this concise.  Most mortgage originators have been approached to sell these products.  There are several out there, but they all work approximately the same way.  You refinance your mortgage into a home equity line of credit.  This line of credit has a variable rate usually tied to prime or LIBOR.  These lines of credits have the capability of acting like a checking account with your income coming in and bills paid going out.  Because there is always some money in the account this is used to pay down your line of credit.  There are costs involved.  For some, they sell you a $3,500 software that manages your equity line efficiently.  There are some costs to the refinance.  Home equity lines have a higher rate of interest than 1st mortgages.  Over time the spread usually is 1.5%.

Look at your checking accounts average daily balance.  That will give you a good idea of the savings.  Multiply this by the interest rate on a HELOC (Let’s say 7% even though you can  get one lower today because of low short term interest rates).  So if your average daily balance is $500 multiplied by 7% you would reduce your mortgage by $35 a month.  Now, the proponents of this would argue that your savings will be greater because of the software.  I won’t get into that, but suffice it to say even if it could increase the savings 10% that is only an additional $3.50/month.

Now let’s look at the costs.  One company charges $3,500 for the software.  Then there are costs for the refinance.  Let’s say that is only $1,500.  Finally, there is that pesky extra 1.5% on the loan.  A $200,000 loan that means aproximatley $3,000 for the first year.  $8,000 in expenses and more continuing as that extra 1.5% remains for the life of the loan.

There is no way that this program can save you anywhere near $8,000.  There is no way this program is  better than just making an extra payment a year, or sending that $3,500 to your mortgage.

This is the proverbial sheep in wolves clothes.  If you want to pre-pay your mortgage, then just do it.  You don’t need $3,500 software or a high interest rate HELOC to accomplish it.  If you don’t have the discipline to do this, fine.  But, don’t waste your money on this product.

When does it make sense to refinance? March 17, 2008

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Several customers have recently asked me to look into a possible refinance.  The ultimate question is when is it appropriate.  The bottom line is that it is very individualized.  The first question you must ask is how long I think I will be in this home?  If it is less than three years then it is rarely in your best interest to incur the cost of a refinance.  So once you have determined your intent to stay in the home over three years, then the next question is how long I intend to have a mortgage?  As you know by now, I encourage my clients to keep a mortgage for life.  However, there are some people that just can’t get comfortable with this.  For them, if they plan to have the mortgage paid off in less than five years, it does not make sense to refinance just to have a lower interest rate for a short period of time.  Yes, it might cost them a few extra dollars if it takes them the full five years, but it is not worth the hassle to go through a refinance for such a small amount.  So the bottom line is that you should refinance only if you plan to stay in the home and have a mortgage for more than five years.

If you are, then you should refinance as long as you can lower the interest rate at least 1/2 point and have enough home equity to use for the expenses.  The first year of a refinance you can deduct almost all of the interest paid, the points, and other expenses.  The longer you have had your mortgage the less interest you pay (in fully amortizing loans).

Finally, one important point.  Underwriting has gotten tougher over the last few months.  So if you can get it done now, then go ahead, because no one knows how much tougher it will get in the future.  This is especially critical if you can foresee trouble in your job, if you are trying to get a reduced documentation loan, or you plan to change your job/career anytime in the future.  

One last word of advice.  Don’t try to time rates! It is close to impossible for anyone to predict rate movements, especially lately.  Don’t play that losing game.  If it makes sense, lowers your payment, and you can get it through under today’s underwriting guidelines just do it. 

Be Your Own Banker Seminar in Tampa February 13, 2008

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BECOME YOUR OWN BANKER

Learn how to significantly improve your future

RETIREMENT INCOME

by using already existing assets

Free Seminar February 28th, 6-8PM

Tampa Palms, Compton Park Meeting Room

Presented by David Shafer, Ph.D. RSVP 813.910.8020

                        Marimark Mortgage & Shafer Financial

Mortgages; The Misunderstood Financial Instrument February 12, 2008

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The next financial strategy is equity management of home equity. Or getting the largest mortgage you can afford in order to seperate home equity and put it to work for you. Now your alarm bells should be really ringing. Isn’t paying off your mortgage the #1 financial goal? Don’t people do all sorts of fancy things to get that mortgage paid off? But why?

No financial instrument has created more wealth for the middle class than mortgages. A bold statement but demonstrably true. Not stocks, not mutual funds, not annuities, nor bonds. But how can this be? How can debt create wealth? Very simply, mortgages allow for the middle class to purchase real estate, something they could not do without this financial instrument. Mortgages allow one to leverage their money into control of a larger asset. Mortgages are cheap money, made cheaper by the tax laws. This combination has allowed people to create more wealth in their homes than any other place.

The median amount of home equity in primary homes is $65,000 for all homeowners. The median total net worth for all families is $93,000. So, in short for Americans, much of their wealth is held inside their homes. So why if mortgages are so successful in building wealth for people are they in such a hurry to get rid of them? That is literally the million dollar question.

Unfortunately, people usually don’t understand how holding their wealth inside of their homes is a very risky position as well as a financially dumb place for holding their wealth. Now, you can’t argue that mortgages has allowed for the middle class to build more wealth than any other financial instrument. You are left with the emotional baggage of thinking all debt is bad. This is also demonstrably false.

So now we understand where the most wealth is for Americans, the question remains how to put that to work for you? See my post on equity management for details, but the bottom line is this strategy works because it takes a hidden asset (home equity) and puts it to work for you in a safe liquid environment. Most Americans (90%) have been unable to save more than a pittance anywhere outside of their homes. The success of this strategy is built on the fact people are successful (over 99% of conforming loans are paid back) in using mortgages to build wealth, while people are not successful in their other wealth building endeavors (ie retirement saving, stock ownership, mutual funds, etc.). Use what people are good at to build wealth…..what a concept!

Follow the Money? December 17, 2007

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Crime fighters learned along time ago that when it comes to crime, you need to follow the money to locate the criminals.  In the finance world it is less clear that following the money is a good thing (think the stock market bubble of 2001).  However, taking the market as a whole, watching the money flow is instructive.  Here in Florida, the real estate market has been decreasing for about 18 months.  The latest numbers indicate year to year drops from 8%-18% depending on specific areas.  The media covered this the same as they have all news about real estate lately by using headlines screaming the “fall of the empire” so to speak.  However, what is starting to happen is that bargain hunters have come into the market in big numbers.  In fact, some large money funds have been trolling around Florida offering to take excess inventory off of builders’ hands, at a serious discount of course, but non-the-less looking to be buyers.  Other smaller concerns have started to amass inventory buying at discount.

What this means is that we are probably toward the end of the down real estate cycle.  I refuse to join the bandwagon in predicting the date of the end of this down cycle, but I think it is clear that we going to see the cycle end relatively soon. 

If you are comtemplating buying an investment property, now is the time to start looking.  Remember to keep in mind “cash flow” from any investment.  This is particularly important in real estate.

If you have been good boy’s and girl’s and have kept a good credit score (above 700) financing is readily available for you.

Reality v. Media Fear Mongering December 13, 2007

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Check out this chart:

 WSJ Marketbeat & Peridot Capitalist):

Now what idea about foreclosure has dominated the media and the politicians for the last couple of months?  It you said adjusting variable rate mortgages are leading to record foreclosure give yourself a gold star!

Now look at the chart again.

What are the leading causes of foreclosure?  The same as always, layoffs and business failures.  What’s next? Illness or health issues.  Then divorces.  What about those adjusting rates?  Accounts for 1.4% of foreclosures.  So what has all the attention being given to?  You got it, the smallest foreclosure reason of all.  Why?  We love to find “victims.” We love to villify folks.  The truth is much harder to swallow.  Folks lose jobs. Folks get sick and sometimes die.  This is especially catostrophic in an environment where you have a hard time selling a home.  And of course hits moderate income folks harder who tend to not have other resources available (your sub-prime market).  Much easier to blame the mortgage companies or the mortgage broker for taking advantage of people. 

By now it is too late.  It is now “common knowledge” that the real estate market has tanked, that folks in variable rate loans are in trouble, that real estate values have plummeted.  Don’t let the facts get in your way!

I bought my Florida home in the year 2000.  It is now worth conservatively 2 1/2 times what I paid for it.  Is  it worth what it was in 2006? No, but if you look at the total rate of return over the 7 and 3/4 years I have owned the home, it is astounding.  How long would it take to sell? Probably several months, not that I am interested in selling.  But I have taken home equity out to pump up my investments!  Is my home a good asset to own?  One of the best.  See my article about equity harvesting here: http://shaferfinancial.thewrittenblog.com/?p=797&comment=true

Reality can sometimes be different than what most people think it is.  You just have to change your view.  Is it time you changed your view from this doom being pitched at you by the media?