Mortgage News

Effective October 1, 2008, Fannie Mae is making home loans more expensive for Americans.  You may want to bookmark this page because where Fannie goes, Freddie often follows.

The first part of Fannie’s two-part change is a remodel on its risk-based fee structure, also known as loan-level pricing adjustments.  The original model was eighty-sixed after just 12 weeks.

To read the fee chart, locate the intersection of your credit score and mortgage loan-to-value.  The cross-section is your risk-based mortgage fee, as mandated by Fannie Mae, and represented by this formula:

Risk-based fees are relatively new to conforming borrowers; mortgage pricing was previously one-size-fits-all.  Today, however, not so much. 

20 different conforming borrowers might be offered 20 distinct mortgage rates and none of the them would be considered out-of-market.  It’s one reason why "ballparking" a mortgage rate is so darn tough these days.

But don’t be discouraged if the risk-based pricing model confuses you — it’s actually one with which we’re all pretty familiar.  Think auto insurance. 

With auto insurance, the cost of a policy increases as a driver’s perceived risk to the insurance company increases.  A "safe" profile, in other words, is rewarded with lower premium.

The same methodology applies to loan-level pricing adjustments and, in this sense, LLPAs are strangely fair — the highest risk borrowers are paying the highest costs.

Fannie Mae’s second pricing change, however, is not as democratic.

Across the board, Fannie Mae is doubling its Adverse Market Delivery Charge to 0.500 percent. 

This is a blanket fee that applies to all mortgages that Fannie Mae securitizes, regardless of credit score or loan-to-value.

Everyone pays.

Now, consider: This is the 3rd and 4th time since December 2007 that Fannie Mae stepped between Wall Street and Main Street to alter mortgage pricing. 

This is bad news because rates are supposed to be determined by the price of mortgage bonds alone.

Instead, rates are being set by the price of mortgage bonds plus whatever fees Fannie (or Freddie) tack on top.

And, so long as Fannie and Freddie project a growing number of mortgage defaults in their respective portfolios, we can expect that loan-level pricing adjustments will increase for a 5th and 6th time sometime before the New Year.

Watch this 5-minute video on the mortgage market and you’ll understand what I mean.  Guidelines are shrinking, costs are rising, and underwriting is a giant kludge.

So, why is now a good time to buy a home?  Because, all things equal, it’s going to be a heckuva lot more expensive and a lot more difficult to get it financed in the future.  Markets are still contracting, folks.  Fannie’s new fees are proof.

We all have a different definition of fun.  For me, it’s taking the weekend to do some light reading.  Specifically, Freddie Mac’s 1,394-page filing with the SEC. 

Hold your laughter — mortgage market insight is a major reason why my clients love to have me on their side.

The SEC document itself is kind of a bear so let’s just skip to page 72 and read the part that matters to the average, everyday American home buyer and homeowner. 

From Freddie Mac:

"We expect to continue to pursue increases to our management and guarantee fees and delivery fees on bulk and flow transactions to better reflect our expectations of future default costs."

Now, if that passage confuses you, don’t be upset.  It’s written to confuse you.

See, there’s a good reason why SEC filings don’t read like Goodnight Moon.  Companies often prefer to obfuscate, especially when reporting financial stability to the SEC.  As a result, SEC filings are written in a language that rivals leetspeak — if you’re not on the inside, you have no idea what you’re looking at. 

So, allow me to translate.  In English, the passage from Freddie Mac’s SEC filing reads:

"To pad our bottom-line against foreclosures, we plan to increase loan-level fees for all conforming borrowers."

Loan-level fees, you’ll remember, are mandatory charges on a mortgage.  Not closing costs, per se, but an interest rate adjustment to every mortgage application. 

In this sense, Freddie Mac’s plan to add new loan-level pricing adjustments is like a tax on borrowing and would mark the third round of such fees since loan-level pricing adjustments were first introduced December 2007.

Mortgage rates used to based on the price of mortgage bonds alone.  Today, it’s bond prices plus fees from Freddie (and Fannie).  In other words, even if Wall Street mortgage rates fall later this year, Main Street mortgage rates could still rise because of new, mandatory borrowing fees for all mortgage applicants.

Therefore, as we’ve talked about before, if you’re in the market for a new mortgage, time is not your friend.  The longer you wait — all things equal — the more likely you’ll pay a higher interest rate to borrow money.

Especially if mortgage defaults rise.

The FHA rolled out risk-based mortgage pricing this week, matching steps that Fannie and Freddie took earlier this year.  In its press release, the FHA lists some exceptions including 15-year mortgages.

Prior to the risk-based changes, FHA home loans were usually accompanied by an easy-to-remember fee schedule of 1.500 percent of the loan size due at closing and an ongoing annual mortgage insurance premium equal to 0.500 percent of the original loan size.

The new fee schedule is not as straight-forward.  "Ideal" borrowers are rewarded for using using FHA-insured mortgages.  "Risky" borrowers are penalized.

Of course, rewards and penalties are relative because versus conforming mortgages — ones guaranteed by Fannie Mae and Freddie Mac — home buyers using FHA will generally get worse rates and pay higher fees over the long-term.  This is especially true when credit scores are low and/or downpayments are small.

One notable exception: home loans for multi-unit properties.

The FHA does not impose additional loan-level pricing adjustments for 2-unit, 3-unit or 4-unit properties.  Fannie and Freddie, by contrast, impose hefty multi-unit property fees of up to 1.000 percent.

This detail — for the right homeowner — could render FHA a much more attractive, even if FHA mortgage rates are slightly higher than their conforming counterpart.  As always, choosing the right mortgage product is rarely ebony and ivory.

Sometime soon, though, expect risk-based mortgage pricing will get more granular, accounting for additional details than just what’s in the FICO-and-LTV Matrix shown above. 

Until it does, though, bookmark this page.  It’s a lot easier to make sense of the chart than it is to translate official government-speak on the FHA adjustments, that’s for sure.

(Image courtesy: Derek Wagner)