Will higher interest rates chill hot housing market?

ORLANDO, Fla. – July 1, 2013 – A recent, sharp rise in mortgage-interest rates has raised concerns about whether Orlando’s robust housing recovery will soften as home loans become more expensive.

Since the beginning of last year, the median price of existing-home sales in the core Orlando market has increased 37 percent. Three factors have helped fuel the jump in prices: a thin inventory of home listings, an ample supply of investment buyers – and historically low interest rates.

But mortgage rates have suddenly shot up. Last week, the average rate nationwide for a 30-year mortgage jumped to 4.46 percent from 3.93 percent – the biggest one-week increase since 1987 and the highest rate since July 2011, according to the Federal Home Loan Mortgage Corp.

“We do think that, as rates go higher, there will be additional affordability issues,” said Brad Hunter, a Florida-based economist for the real-estate-research firm MetroStudy Inc.

“Everyone is getting nervous now as the Fed is taking away the Kool-Aid bowl soon,” he said. Rates started moving up after the Federal Reserve said on June 19 that it might end its economic-stimulation program by the end of this year or in 2014.

In the Orlando area – one of the hardest-hit real-estate markets in the country – an increase in interest rates could temper the housing recovery in several of ways.

For one thing, higher rates would mean prospective buyers could afford less house, possibly easing demand for new and existing homes in what has lately been a sellers’ market. For another, the equity funds that have been buying up foreclosures throughout the region would likely go looking elsewhere for better ways to invest their money; such a shift would likely end the current frenzy of multiple bidders vying for each home that comes on the market. Home builders may be pressured by higher carrying costs, even as fewer prospects show up to tour their model units. And homeowners not interested in selling would be less likely to refinance their existing loans.

Here’s a closer look at how rising rates could affect those four groups:

Buyers

For homebuyers, many of whom have struggled since the Great Recession and global credit crisis to qualify for mortgages, an uptick in rates would also cut into their buying power once they were approved for a loan.

For example, buyers who obtained a $200,000 mortgage when interest rates were about 3.5 percent in April landed a monthly payment of about $900. But if rates head north to 5 percent, buyers hoping to get that same monthly payment would have to limit their mortgage to $170,000 – or $30,000 less than they could have afforded with the lower loan rate.

In a talk to Congress last week, Fed Chairman Ben Bernanke noted that housing’s vital role in the nation’s economic recovery is due partly to the real estate-related jobs it creates “but also because higher house prices increase consumer wealth and promote consumer spending.”

Over the 30-year life of a $200,000 mortgage, however, a homebuyer would pay an additional $63,000 in interest with a 5 percent rate than with a 3.5 percent rate – money not available for spending on consumer goods or services.

And even though mortgage lenders stand to earn more money with higher rates of return on their loans, borrowers would not find it easier to qualify for home loans should interest rates keep rising, said Rob Nunziata, president of Orlando-based FBC Mortgage LLC.

“With some of the new regulations taking effect soon, such as QM – qualified mortgage – I think you will see lenders actually tighten guidelines as opposed loosen them,” he said.

The Qualified Mortgage Rule, issued by the federal government’s Consumer Financial Protection Bureau, aims to crack down on loose lending practices. Among other provisions, it does not allow mortgages that would bring a homebuyer’s total monthly debt payments, including property taxes and insurance, to more than 43 percent of the person’s gross income.

Investors

Institutional buyers are likely to slow the pace of their distress-sale home purchases if interest rates rise and other investments become more attractive. Whether they also dump the properties they have already purchased or hang onto them would depend on the demand for single-family-home rental properties.

“I think the major equity players, like Blackstone [Group], that brought volume purchases to the real estate industry will retreat from the purchase of individual homes,” said Owen Beitsch, senior principal of Real Estate Research Consultants Inc. of Orlando. “This asset class is simply much too management intensive, and the spread between cost and return is decreasing.”

John Tuccillo, chief economist for Florida Realtors, said he expects the pace of investor purchases to slow “during the next year or so.” He added that, while he doesn’t expect equity funds to sell off their newly acquired houses, he figures they will cut back on picking up new ones.

Diminished demand for investment houses would put pressure on prices to fall, though Orlando’s slim inventory of listings – about half what is considered normal for a balanced market – would allow the market to more easily handle an increase in available properties without prices tanking.

Builders

Homebuilders would also have to adjust as prospective buyers grapple with reduced spending power. A certain slice of that group would scale back their search to existing-home listings, said Hunter, the MetroStudy economist. Others would settle for smaller new homes or for developments in more-remote locations, he added. And builders would face costlier carrying costs for land and materials as they wait for enough buyers to close out a project.

In the short term, Hunter said, the jump in interest rates could give the market a boost, as prospective home buyers who have been hesitating to act decide to buy now, assuming rates will only continue to rise.

Homeowners

For those already in a home and intent on staying there, refinancing their current mortgage would make less sense if rates continue to escalate, Nunziata said.

The number of refinanced mortgages grew significantly in 2011-12, with home-purchase loans becoming a smaller part of the overall mortgage mix, he said. The last time the refinance market experienced a big boost, he noted, was back in 2001-03, when rates dropped to 5.25 percent from 7.25 percent.

Mortgage lenders who have been specializing in refis are likely to go out of business “sooner than later” if interest rates keep rising, he added.

“The lenders that focus on purchase business will be in good shape, as long as the economy continues to improve,” Nunziata said.

© 2013 The Orlando Sentinel (Orlando, Fla.), Mary Shanklin. Distributed by MCT Information Services

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