With property values rising and mortgage rates still near historic lows, homeowners are paying out home equity in amounts that have not been seen since the height of the housing bubble.
With property values rising and mortgage rates still near historic lows, homeowners are paying out equity in amounts that have not been seen since the height of the housing bubble. Although the alarm bells are still not ringing, analysts are closely monitoring the trend.
This is because homeowners who pulled much of the equity out of their home when they refinanced are at greater risk of default if home prices reverse course.
A 2018 study by the Urban Institute of loans taken out between 1999 and 2016 found that disbursement revisions had a 97 percent higher probability of default than purchase loans. The approved default rate for refis to disbursement in 2007 was 17.1 percent, compared to 9.6 percent for purchase credits.
The study concluded that the main cause of the 2007-09 financial crisis and subsequent recession may not have been lending to marginal borrowers.
Instead, “the poor performance of withdrawal refinancing and refinancing in general is a more important factor.”
More recently, a monthly chart book published last month by the Urban Institute’s Housing Finance Policy Center shows that homeowners refinancing conventional mortgages ran nearly $ 50 billion in equity over the last three months of 2020 have pulled their homes.
“In the run-up to the global financial crisis, disbursement mortgage loans were a major driver of risk as many borrowers extracted equity from rising property prices,” said Jonathan Glowacki, principal at global advisory and actuarial firm Milliman. “While the refinancing volume for disbursements increased significantly in 2020 and 2021, we believe that the risk will now be reduced somewhat through stricter underwriting standards, namely limited LTV ratios.”
Glowacki is the author of the Milliman Mortgage Default Index (MMDI), which estimates the lifelong default risk of government-secured mortgages. The latest Milliman MMDI report states that the loan-to-value ratio of most disbursement audits cannot exceed 80 percent, but automated assessments have increasingly been used during the pandemic.
“With little inventory, it is possible that the models used for assessment waivers are biased and do not reflect a stable real estate market,” wrote Glowacki. However, this risk is mitigated by the fact that the LTVs for withdrawal refis are capped at 70 percent when automated scoring is used.
“Milliman will continue to monitor the performance and volume of disbursement refinancing loans. At this time, these mortgages do not appear to pose a significant risk to the mortgage market, ”the report concludes.
Another potentially mitigating factor is that credit scores for both purchase credits and refis hit an all-time high in 2020. According to the latest Black Knight Mortgage Monitor, lenders have eased their standards and credit scores have gradually come down this year.
For borrowers who are approved for refinancing at interest rates and maturities that don’t deliver cash, average credit scores are down 13 points so far this year. The average credit score for borrowers approved for withdrawal refinancing hasn’t dropped as much – it’s down eight points, reports Black Knight.
As house prices continue to rise and the economy recovers from the pandemic, there are few signs of an impending foreclosure crisis. Although nearly 2 million homeowners are three months or more behind on their mortgage payments, many homeowners who were indulgent at the start of the pandemic are now resuming payments that involve repaying their mortgages.
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