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articles about “Mortgages

Why Conforming Loan Limits Should Be Part of Housing-Finance Reform — But Aren’t

The current system of conforming loan limits falls far short of reflecting the actual differences in local home prices and ends up favoring borrowers in lower-cost markets. More than 30% of homes for sale in many California and Northeastern markets are above the conforming loan limit, versus less than 10% in much of the rest of the country. The leading housing-reform bill – the Johnson-Crapo bill – keeps loan limits intact, while making them matter less.

The U.S. housing finance system is national, but housing markets are local. Local markets often face different housing challenges: today, California’s coastal communities face an affordability crisis, while Florida is dealing with foreclosures and Detroit and other Midwestern cities are wrestling with neighborhoods of vacant homes. The housing finance system – as well as other national housing policies – needs to serve a country where local home prices in some markets are 10 times as high as in others, and where local and state laws affect how much new construction is allowed, how long foreclosures take, and more.

One way the national housing finance system explicitly accounts for local market differences is through the conforming loan limit – the maximum dollar amount of a home loan that Fannie Mae and Freddie Mac can guarantee (they purchase mortgages from originators, package them into securities that investors buy, and guarantee the payments in the event that a borrower defaults). Loans above this limit are “jumbos.” Until 2008, the conforming loan limit was the same throughout the country (Alaska and Hawaii are treated separately), but the 2008 Housing and Economic Recovery Act (HERA) granted “high-cost areas” higher conforming loan limits to reflect local price differences. Now, in 2014, the limit in high-cost areas is up to $625,500, which is 50% above the $417,000 limit that applies in most of the country.

For a borrower, one advantage of conforming mortgages is that they typically (though not currently) have a lower mortgage rate than jumbo loans; also, jumbo loans often require higher down payments, a higher credit score, or a lower debt-to-income ratio. Part of the rationale for having conforming loan limits – rather than allowing loans of any amount to be guaranteed – has been to target the benefits of conforming loans to borrowers buying more modestly priced homes and not to borrowers buying luxury homes.

This week, the Senate will markup the leading housing-reform proposal – the Johnson-Crapo bill – which would overhaul the housing finance system by replacing Fannie Mae and Freddie Mac, introducing an explicit but limited government backstop, and creating a new fund for affordable housing. Despite these major changes, the bill keeps current conforming loan limits intact. Is this implied vote of confidence in the current system of conforming loan limits warranted? Let’s assess how well these limits reflect local price differences.

Conforming Loan Limits Don’t Reflect Differences in Local Housing Prices
To see whether the conforming loan limits bind equally tightly across local housing markets, we calculated the share of for-sale homes on Trulia in each of the 100 largest U.S. metro areas that is above the local conforming loan limit, assuming an 80% loan-to-value (LTV) mortgage (that is, a 20% down payment — see endnote for details). If loan limits fully reflected local housing market differences, then a similar share of homes in every metro would be above the local loan limit. But the results show that a much higher share of homes is above the local loan limit in some metros than in others.

In the San Francisco metro area, 61% of homes for sale are priced above the conforming loan limit (the local limit, $625,500, equal the loan amount for an 80% LTV loan on a $781,875 home); the typical San Francisco home priced near the loan limit is a modest 1500 square feet. In several other California metros, as well as in New York and Boston and their respective neighbors of Fairfield County, CT, and Middlesex County, MA, 30% or more of the homes for sale are above the local conforming loan limits. These 10 metros with the highest share of for-sale homes above their respective local loan limit all are “high-cost” areas with limits above the national baseline of $417,000, but even with their higher loan limits, they have the highest share of homes for sale that would require jumbo loans.

Housing Markets With Highest Share of
For-Sale Homes Above Local Loan Limit

# U.S. Metro Conforming loan limit % of for-sale homes above local loan limit Median size of for-sale homes near local loan limit, square feet
1 San Francisco, CA

$625,500

61%

1,500

2 San Jose, CA

$625,500

43%

1,900

3 Fairfield County, CT

$601,450

39%

2,750

4 Orange County, CA

$625,500

38%

2,250

5 Ventura County, CA

$598,000

34%

2,400

6 San Diego, CA

$546,250

33%

2,300

7 Middlesex County, MA

$470,350

33%

2,400

8 New York, NY-NJ

$625,500

30%

1,500

9 Oakland, CA

$625,500

30%

2,100

10 Boston, MA

$470,350

30%

2,350

Note: Among 100 largest U.S. metros

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Shutdown Hasn’t Hurt October Asking Home Prices So Far

Asking home prices in the first half of October are up 1% versus September. Prices changes are no different in metros more dependent on the federal government, like Washington DC, compared with metros less directly affected by the shutdown.

Jed Kolko, Chief Economist
October 16, 2013

How has the two-week shutdown of the federal government affected home prices? The main sales-price indexes won’t tell us until 2014: homes going under contract in October will close in November (or later), and November sales prices will get reported starting in January. But the Trulia Price Monitor shows how asking prices – a leading indicator of sales prices – are trending almost in real time, adjusting for both the mix of listed homes and for seasonality. This morning we analyzed asking prices between October 1 and October 15.

Finding the Effect of the Shutdown on Asking Home Prices
Nationally, asking home prices are up 1.0% between September and the first half of October, seasonally adjusted. This partial month-over-month increase is roughly in line with the month-over-month increases over the past few months. Before the shutdown started, several factors were already cooling down price gains, including expanding inventory, higher mortgage rates, and declining investor activity. Therefore, comparing how much prices have risen in October to date with previous months can’t, by itself, show whether the shutdown has affected asking prices.

Instead, to tease out the effect of the shutdown on asking home prices, we looked at price trends across individual metros. We compared price changes in metros where the local economy is more dependent on the federal government – like Washington D.C., of course, but other metros around the country as well – with prices changes in metros where the local economy is less dependent on the federal government. (Our measure of dependence on the federal government – and therefore likely impact from the shutdown – is the share of local wages coming from the feds.)

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Rising Mortgage Rates Narrowing Buy vs. Rent Gap Visualization Preview

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Rising Mortgage Rates Narrowing Buy vs. Rent Gap

Despite higher mortgage rates, buying is still 35% cheaper than renting in all of the 100 largest metros, but San Jose, San Francisco, and Honolulu are on the verge of tipping.

Jed Kolko, Chief Economist
September 19, 2013

Homeownership remains cheaper than renting nationally and in all of the 100 largest metro areas. But rising mortgage rates have narrowed the gap between the cost of buying and the cost of renting. The 30-year fixed rate is now 4.80%, compared with 3.75% one year ago (according to the Mortgage Bankers Association, or MBA). This jump in rates has raised the cost of buying relative to renting. As a result, buying is 35% cheaper than renting today, versus being 45% cheaper than renting one year ago.

How can buying be so much cheaper than renting when home prices and mortgage rates are both climbing? The key reason: both rates and prices are rising from very low levels and are still below their long-term historical norms. But the rent versus buy math depends on your local market, as rising rates and prices have pushed a handful of metros very close to the tipping point when renting becomes cheaper.

Before going further into the data, here’s how we do the math. To calculate whether renting or buying a home costs less, we take the following steps:

  1. Calculate the average rent and for-sale price for an identical set of properties. For this report we looked at all the homes listed on Trulia for sale and for rent from June to August 2013. We estimate prices and rents for similar homes in similar neighborhoods in order get a direct apples-to-apples comparison. We are NOT just comparing the average rent and average price of homes on the market, which would be misleading because rental and for-sale properties are very different: most importantly, for-sale homes are roughly 50% bigger, on average, than rentals.
  2. Calculate the initial total monthly costs of owning and renting, including maintenance, insurance, and taxes.
  3. Calculate the future total monthly costs of owning and renting, taking into account price and rent appreciation as well as inflation.
  4. Factor in one-time costs and proceeds, like closing costs, downpayment, sales proceeds, and security deposits.
  5. Calculate the net present value to account for opportunity cost of money.

To compare the costs of owning and renting, we assume people get a 4.8% mortgage rate on a 30-year fixed-rate loan with 20% down; itemize their federal tax deductions and are in the 25% tax bracket; and will stay in their home for seven years. Under these assumptions, buying is 35% cheaper than renting nationwide, taking into account all of the costs and proceeds from buying or renting over the entire seven-year period. We also look at alternative scenarios by changing the mortgage rate, the income tax bracket for tax deductions, and the number of years that one stays in the home.  The full methodology is available here.

Our interactive Rent vs. Buy Map shows how the math changes under alternative assumptions. And if you’re interested, check out our detailed methodology which explains our entire approach step-by-step.

RentvsBuyMap

Best of all: today we launched our new Rent vs. Buy Calculator, which lets you compare the cost of renting and buying based on whatever assumptions, prices, rents, and scenarios you like, using the same math that powers our interactive map and this report. Check it out and find out what’s the cheaper option for you.

San Francisco Bay Area Close to Tipping in Favor of Renting
Buying a home is cheaper than renting in all of the 100 largest metro areas, but buying ranges from being 65% cheaper in Detroit to just 4% cheaper in San Jose. In fact, owning is now cheaper by just 10% or less in San Jose, San Francisco, and Honolulu – that’s a big change from one year ago, when buying was 24% cheaper than renting in Honolulu, 28% in San Francisco, and 31% in San Jose. Even in markets with minimal year-over-year price increases, buying today isn’t as great of a deal versus renting compared with last year. For example, home prices rose just 1.7% year-over-year in Philadelphia, but buying is now 40% cheaper than renting compared to being 46% cheaper one year ago.

The biggest factor narrowing the gap between the cost of buying and the cost of renting is rising mortgage rates – which affect the entire country. In fact, the benefit of buying relative to renting shrank in nearly all of the 100 largest metros over the past year: only in Springfield, MA did the gap widen, from buying being 47% cheaper than renting last year to being 49% cheaper than renting today. Nationally, rising mortgage rates account for about 8 points of the 10-point shift from buying being 45% cheaper than renting one year ago to being 35% cheaper now. The other 2 points are due to prices rising faster than rents. (How did we figure that out? If you used today’s prices and rents in the rent vs. buy calculation but used a 3.5% mortgage instead of a 4.8% mortgage, buying would be 43% cheaper than renting – 2 points less than last year.)

Because fluctuating mortgage rates can affect the rent versus buy math, we identified the mortgage rate “tipping point” at which renting becomes cheaper than buying, given current prices and rents. If rates keep rising, San Jose will tip first in favor of renting, at 5.2%. Already today, at 4.8%, buying is just 4% cheaper than renting in San Jose. The tipping point is below 6% in San Francisco and Honolulu as well, and below 8% in New York, Los Angeles, and seven other major metros. Nationally, the mortgage rate tipping point is 10.5%, and it’s 20% or higher in Detroit, Gary, and Cleveland.

Where Buying a Home is a Tougher Call

# U.S. Metro

Cost of Buying vs. Renting (%),
Summer 2013

Cost of Buying vs. Renting (%),
Summer 2012

Mortgage Rate Tipping Point When Renting Becomes Cheaper Than Buying, Summer 2013

1 San Jose, CA

-4%

-31%

5.2%

2 San Francisco, CA

-9%

-28%

5.7%

3 Honolulu, HI

-10%

-24%

5.8%

4 Orange County, CA

-20%

-34%

7.0%

5 New York, NY-NJ

-21%

-31%

7.5%

6 San Diego, CA

-21%

-34%

7.3%

7 Los Angeles, CA

-21%

-32%

7.3%

8 Ventura County, CA

-22%

-33%

7.5%

9 Oakland, CA

-23%

-43%

7.5%

10 Sacramento, CA

-26%

-39%

8.2%

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When Will the Jump in Mortgage Rates Bite?

Recent history shows that spiking mortgage rates take a big chomp out of refinancing immediately and smaller nibbles out of sales three months later. Longer term, the impact of rising rates is typically offset by stronger economic growth. The overall effect of rising rates may turn out to be more bark than bite.

Jed Kolko, Chief Economist
September 11, 2013

Ever since mortgage rates started their steep climb in early May, we’ve all been on high alert, watching how higher rates will affect the housing market. For a would-be buyer calculating the mortgage payment on their dream home, the effects are obvious: the increase in the 30-year fixed rate from 3.59% in early May to 4.73% at the end of August (according to the Mortgage Bankers’ Association, or MBA) means a 15% increase in the monthly payment on a $200,000 mortgage. That should deter homebuyers and reduce mortgage applications, sales, and prices, right? In theory, yes, but of course the real world is much more complicated. Mortgage rates aren’t rising all on their own: other housing and economic shifts are happening at the same time.

Fortunately, the recent past is a useful guide. The 30-year fixed rate jumped .47 points in May 2013 and .51 points in June 2013, comparing the levels at months’ end (MBA). (Side point: the 30-year fixed reached 4.80 this morning, September 11, .22 points higher than at the end of June, which means July, August, and early September have seen much milder increases compared with the May & June spike.) But this year isn’t the only time when mortgage rates have jumped up: they also climbed at least .4 points in seven other months since 1999. With some simple time-series regressions, we traced out the typical paths of mortgage applications, sales, and prices in the months immediately after a mortgage rate spike. 

The Month-by-Month Impact of a Rate Spike
Our analysis of mortgage rates and other housing data from January 1999 through April 2013 – just before the current spike – shows that mortgage rates hit refinancing applications (MBA) earlier and harder than any other measure of housing market activity. (Not all of the data series are available back to 1999.) Here’s the timeline of what typically happens when rates spike by half a point in a month:

  • The month when rates spike: Refinancing applications typically fall by 45% in the month of a spike, with further falls one and two months after mortgage rates jump, compounding the effect. The drop in refinancing applications this year was roughly 50% cumulatively over two months, which actually looks small compared with similar rate jumps in the recent past.
  • 1-2 months after the spike: Pending home sales and home-purchase mortgage applications typically decline slightly, though the effect isn’t statistically significant. New home sales also decline modestly.
  • 3 months after a spike: New home sales and existing home sales drop. That means that the May mortgage rate spike should show up most strongly in August new home sales and existing home sales, both of which will be reported later this month (on September 25 and September 19, respectively).

Compared with the impact on refinancing, the impact of a rate spike on home-purchase mortgage applications and sales volumes is very small and not always statistically significant.

Housing indicator

Month of biggest mortgage rate impact

Effect in month of biggest impact*

Statistically significant?

Which report will show biggest impact of May 2013 rate spike

Refinance mortgage applications (MBA) Same month as rate spike (plus additional impact 1-2 months after)

-45%

Yes May data (already reported)
Pending home sales (NAR) 1 month after

-1.1%

No June data (already reported)
Home-purchase mortgage applications (MBA) 2 months after

-2.6%

No July data (already reported)
New home sales (Census) 3 months after (plus modest impact 1-2 months after)

-2.4%

Yes August data, to be reported Sept 25
Existing home sales (NAR) 3 months after

-1.7%

Yes August data, to be reported Sept 19
Sales prices (Case-Shiller, FHFA) No short-term impact

N/A

N/A N/A
Note: The “effect in month of biggest impact” equals the month-over-month change in the indicator for a 0.5 point rate spike, relative to when the mortgage rate doesn’t change, in percentage points. 

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Rising Mortgage Rates Giving Would-Be Homebuyers Jitters

Rising mortgage rates are the top worry for people thinking of buying a home someday, and 56% of Americans say they would be discouraged from homeownership if rates reach 6%. But pay more attention to what consumers do than what they say.

After years of low-and-lower mortgage rates, the 30-year fixed rate shot up from a near-historic-low of 3.35% in early May to 4.46% in late June before settling back to 4.29% last week, according to Freddie Mac. The rate increase was sudden and steep, but not a surprise. Economists and forecasters have been waiting for rates to go up for two reasons: (1) the strengthening economy tends to push up rates, and (2) the Fed is expected to pull back on bond-buying and other measures that have kept rates low, which they reaffirmed in mid-June. By historical standards, rates are still low: remember that mortgage rates hovered around 6% for most of the 2000s, 7-9% in the 1990s, and above 10% in the 1980s. Nonetheless, the recent rate climb has been steep. 

What Consumers Think of Rising Rates
Consumers are anxious about rising mortgage rates. Trulia surveyed more than 2,000 people during June 24-26, after rates rose sharply. We asked what their biggest worry would be if they were to buy a home this year. Among all consumers who plan to buy a home in the future, 41% said their top worry is that mortgage rates would rise before they actually bought. The next biggest worries were that prices would rise before they actually bought (37%) and that they wouldn’t find a home for sale that they like (36%).

How high do mortgage rates have to rise before consumers are discouraged from buying a home? Among consumers who plan to buy a home someday, 13% said that mortgage rates of 4% (which is what the rate had climbed to when the survey was conducted) were already too high for them to consider buying a home. Another 20% said they’d be discouraged from buying a home if rates reach 5%; yet another 22% said they’d be discouraged from buying a home if rates reach 6%. Combining these groups, 56% of consumers who plan to buy a home someday would be discouraged from doing so if rates reach 6%. Among renters who plan to buy a home someday, 62% would be discouraged from doing so if rates reach 6%.

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