April 11, 2021

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Mortgage News

The Explosive Surge of Mortgages for “Second Homes”: Housing Bubble Math

No real estate market can produce enough houses if houses are massively used as vacant investment speculations. This creates an artificial deficiency.

By Wolf Richter to the WOLFSTRASSE.

That the real estate market has gone crazy is now in the news every day with click-bait reports of goofy bidding wars with ridiculous amounts paid over already high asking prices, fueled by FOMO’s new pandemic – the fear of missing out. Bad deals are done in good times, as bankers say, and these are the best times, driven by Fed policy to move heaven and earth to inflate every conceivable asset bubble.

A side effect of the combination of these soaring house prices, the still low mortgage rates, and the FOMO is that people bought new homes without putting their old and now empty home on the market, and with no intention of putting it on the market for the time being bring – and with that they bought a “second home” – which depresses the supply and heats up the frenzy further.

The percentage of purchase mortgage applications in February for second homes and investment properties rose to 14.1% of total purchase mortgage applications, according to data from the Mortgage Bankers Association, cited and mapped by the Mortgage Bankers Association Wall Street Journal::

I’ve seen people wanting to leave a big city buy a house in a place they’ve always wanted to live, in distant suburbs or in vacation hotspots in the mountains or in coastal enclaves they are in had fallen in love. or wherever, and because house prices are rising and money is cheap, they don’t sell their old home. And now they own second homes.

The math goes like this: If you own a home with $ 500,000 in equity that you have $ 100,000 in equity, and assuming that the price of your home would go up 10% in the next 12 months, then you would the return on their equity of USD 100,000 is up to 50%. If they could last two years they would double their money. If you need additional money, you can refine the old and now vacant house.

And while they’re at it, they expect the price of their new home to go up and make tons of money just skiing on the beach or skipping lollygagging and zooming meetings. This is apartment bubble math.

The number of buyers setting mortgage rates on second homes in February rose 93% from February last year – but that’s a decrease from the frenzy seen in the second half of last year, when those rates rose up to 118% year for year Year in September, according to Redfins data analysis by real estate analysis firm Optimal Blue, quoted by the WSJ. This increase far exceeds the increase in tariff barriers for main residences (chart from the WSJ):

No real estate market can produce enough houses if houses are massively used as vacant investment speculations. This creates an artificial deficiency.

But there is another side that emerged during the real estate bankruptcy: vacant houses as investment speculation are subject to profit-taking if the owner wants to secure profits through sales. And this could happen suddenly, for example if the real estate market turns and these highly indebted, high-profit investments become expensive, money-losing albatrosses. And before the profits evaporate, the owners bring the houses to market, suddenly turning that shadow inventory into inventory for sale without the owner having to buy another home.

The government has of course subsidized these mortgages for second homes and investment properties. But Fannie and Freddie are now starting to place restrictions on the number of these mortgages they buy from lenders. In the future, they will limit these types of mortgages to 7% of the dollar amount of their total purchases. Freddie has already set the 7% limit; and Fannie has given lenders until June 1 to submit, according to FHA officials quoted by the WSJ.

Do you remember the first table above? The share of these mortgages in the total mortgage pool has risen to 14%.

These restrictions were requested by the Treasury Department towards the end of the Trump administration as part of negotiations with the FHFA, which overseas Fannie and Freddie, to cut the roles of the two mortgage giants. The idea is that second homes and investment properties are not initially Fannie and Freddie’s core business.

The new restrictions mean that off-cutoff mortgages for second homes and investment properties are associated with higher interest rates. This would particularly affect the housing markets where second homes are a major factor, and these are also some of the markets where the steepest price spikes.

The dollar’s purchasing power is falling, but the CPI ignores house price inflation. Read… The Most Magnificent Real Estate Bubbles in America: “House Price Inflation” in all its glory. March update

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