Daredevil Act
Investors aren’t the only ones driving the condo craze. In many major cities, aggressive mortgage bankers and brokers are enticing buyers to interest-only and adjustable-rate mortgages (ARMs). As the number of ARMs and interest-only loans grew to an astounding 63 percent of mortgage originations in the second half of 2004, according to the Mortgage Bankers Association, everyone from the national media to Alan Greenspan raised red flags.
After all, when Fannie Mae began offering interest-only loans, the housing finance giant didn’t intend them for twenty-somethings trying to stretch into their first condo. “We had it targeted it at the financially sophisticated borrower,” says Jef Kinney, vice president for business and product development at Fannie Mae in Washington, D.C. “This was [for] the person who saw the mortgage as one part in the overall financial management plan.”
But many of the borrowers utilizing these loans could hardly be called financially sophisticated. “The mortgage bankers are rationalizing this by saying they’re lending to people with a high FICO scores,” says Phillip Kibel, a senior vice president with Moody’s, referring to Fair Isaac Corp.’s commonly used credit scoring system. “But a student out of college who has never bought anything on a credit card and just got a new job will have a high FICO score.”
These young buyers also want to live in urban areas, where condos predominate and so do these lower-payment, more financially unpredictable loans. “ARMs appear to be much more popular in high-cost, high-appreciation areas,” Kinney says.
Some might say that makes sense. When home and condo prices are high, adjustable-rate and interest-only loans are more popular, because the monthly payment is lower. But others question the order of this particular cause and effect, charging that loans are what’s behind much of the dramatic real estate appreciation rates in recent years. “There seems to be no question that the mortgage lending industry is contributing to the escalation in price with the introduction of mortgage products that we haven’t seen 15 or 20 years that are designed specifically to address affordability and are inherently more risky,” says Rick T. Murray, an equity research analyst for home building and REITs for Raymond James & Associates.
If interest rates jump at the same time as appreciation slows or even declines, countless condo buyers could be in trouble. “If people are stretching to afford a home at a certain payment and that payment has the risk of going up, and income and wage growth is not all that great, the payment will go up much more than the wage growth,” says Kinney of Fannie Mae.
But he won’t place bets on how many units will eventually be forced back on the market because of interest-only loans and ARMs. “People will be paying more, but I can’t tell you how many people it will push over the edge to where they have to change their plan,” Kinney says.
