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Community Development

Looking Beyond Foreclosures

Recent Trends in Residential Finance and Housing Markets, Part I

The U.S. mortgage crisis and the larger financial crisis that followed have had, and will continue to have, widespread impacts on housing finance, housing markets, and community development.1 How will these shifts affect homeownership and affordable housing finance over the near and longer term? Some of the repercussions are already evident; others will depend on developments in the broader financial markets and the real economy, as well as on policy responses.

housesAlthough it is impossible to discuss housing finance issues completely outside the context of the broader economy, responses closely tied to changes in financial markets are the particular focus of this article—especially trends in home purchase lending, homeownership and tenure, and the multifamily finance market. Dan Immergluck, associate professor at the Georgia Institute of Technology, explores these issues and the policy implications in a two-part series. Part I examines the expanding role of the Federal Housing Authority (FHA) in home finance. Part II, to appear in the next issue of Partners, will look at the implications on homeownership rates, the prospects for the rental housing markets, the uncertainties in multi-family housing finance, and alternative tenure options.

Homeownership finance
Arguably no activity has been more affected by the crisis than that of mortgage markets. Even after accounting for the demise of subprime lenders, many lenders have tightened their own lending standards. The Federal Reserve's quarterly Senior Loan Officer Survey shows that mortgage lenders began creating stricter credit standards in 2007, and this continued through at least the spring of 2009, although the pace of tightening began to slow some in late 2008. However, even in early 2009, 49 percent of lenders continued to rein in credit standards, while no lenders reported easing standards.

One result of the more stringent standards of conventional lenders (those making loans not directly guaranteed or insured by the FHA or Veteran's Administration [VA ])has been a shift to loans insured by the FHA. FHA market share, which had fallen to less than 15 percent of home purchase loans by the 1990s, dropped even further from 2003 to 2006, as subprime lenders captured much of FHA's share. Figure 1 shows that FHA's share increased from 5 to 7 percent between 2005 and 2007 to an estimated 25 percent by early 2009. At the same time, the raw number of conventional home purchase loans declined substantially over this period. The FHA's expansion, combined with the conservatorship of the government sponsored enterprises (GSEs), Fannie Mae and Freddie Mac, meant that the federal government became a critical driver of the mortgage market by late 2008. The Federal Housing Finance Agency estimates that over 94 percent of mortgage originations (purchase and refinance) in the first quarter of 2009 directly involved the FHA, the VA, or Fannie Mae or Freddie Mac.2 Although the future of the GSEs will be the subject of substantial policy debate over the next year or two, it remains clear that the federal role in the home loan market has become more important than ever.

"After climbing from the mid 1990s through the early 2000s, the homeownership rate in the U.S. began dropping during 2005, driven by surging foreclosures."

Figure 2 utilizes data from LPS Applied Analytics, which collects information on loans serviced by 18 large mortgage servicers (including 9 of the top 10). It shows that recent FHA loans (during the fourth quarter of 2008) constituted a larger proportion of home purchase originations in higher-poverty ZIP codes than in lower-poverty ZIP codes. These figures may reflect differences in real or perceived risks across ZIP code types (including differences in credit scores and down payments), differences in lending practices across neighborhoods, or other factors. Regardless of the reasons behind these disparities, they are important to recognize. In part because FHA loans are generally more expensive, such disparities could have significant consequences for lower-income communities. More work is needed to understand what lies behind these disparities and what they imply for lower-income neighborhoods.

In addition to the geographic patterns, FHA loans have become the dominant source of credit for homebuyers who make down payments of less than 10 percent. In the fourth quarter of 2008, fewer than 13 percent of conventional purchase originations in the LPS Applied Analytics data set had loan-to-value (LTV) ratios above 90 percent, compared to over 81 percent of FHA loans. Fewer than 4 percent of conventional loans had LTV ratios of more than 95 percent, compared with more than 62 percent of FHA loans.

While the FHA has accepted some of the higher-risk segments of the market vis-à-vis conventional lenders, the average credit scores of FHA borrowers have actually increased significantly during this time; mean FICO scores for those receiving home purchase loans rose from 608 in October 2007 to 673 by May 2009.3 This suggests that some retrenchment by conventional lenders (and/or private mortgage insurers or the GSEs) has fed the expansion of FHA market share.

FHA becomes bulwark in home purchase market chart
FHA loans represent a larger share of recent loan activity in lower-income neighborhoods chart

Some implications for affordableand fair housing policy and practice
The trends outlined here suggest a number of implications for affordable and fair housing policy and practice. First, while it is too early to say whether an FHA market share of 25 percent (or perhaps substantially higher) will persist as a "new normal," it is likely that the FHA will play a major role in home purchase markets for quite a while.4 It will be important for the agency to modernize its operations fully and for policymakers and others to pay close attention to the operations and details of this program, as it is likely to have substantial impacts on the mortgage and housing market for the foreseeable future, especially in low- and moderate-income communities. While the U.S. Department of Housing and Urban Development has itself recently increased scrutiny of FHA lenders, the FHA's long-term history is replete with problems of property flipping scams and the like. Modernizing the FHA also means institutionalizing antifraud practices and systems for the long run.

Second, FHA's larger share of the home purchase loan market in lower-income communities, while not unexpected, suggests the need for strong attention to fair lending and community reinvestment patterns of conventional versus FHA lenders. The policies and practices of conventional lenders and mortgage insurers should be examined for potential fair lending problems and impediments to sound community reinvestment. So-called "declining market" policies by mortgage insurance firms, for example, should be justified based on hard data that can be examined for disparate impacts that may not be justified by business necessities.

In the next issue of Partners, Immergluck will examine trends in homeownership nationally and in select metropolitan areas, ways to increase affordable tenure options, and the challenges facing multifamily housing finance.

This article was written by Dan Immergluck, Associate Professor, City and Regional Planning, Georgia Institute of Technology. The author thanks Ellen Seidman and Alex Schwartz for comments on an earlier draft of this article. All errors, omissions and opinions remain solely the author's responsibility.

Endnotes

1 For example, see M. Pinsky, N. Andrews, and P. Weech, The Economic Crisis and Community Development Finance: An Industry Assessment, June 2009 Working Paper 2009-05, Federal Reserve Bank of San Francisco Community Development Investment Center; and D. Immergluck, "The Foreclosure Crisis, Foreclosed Properties, and Federal Policy: Some Implications for Housing and Community Development Planning," Journal of the American Planning Association, 75(4), August, 2009.

2 James B. Lockhart, The Roles of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks in Stabilizing the Mortgage Market, Presentation to the National Association of Real Estate Editors, June 18, 2009.

3 U.S. Department of Housing and Urban Development, FHA Outlook, June 1-15, 2009.

4 The term "new normal" has been used to describe expectations of various systemic and substantial shifts in the long-term nature of financial markets or submarkets after the crisis, including by Mark Pinsky, "The New Normal: The Extraordinary Future of Opportunity Markets," in The Economic Crisis and Community Development Finance: An Industry Assessment, June 2009 Working Paper 2009-05, Federal Reserve Bank of San Francisco Community Development Investment Center; and Mohamed El-Erian, "A New Normal," PIMCO Secular Outlook, May 2009. The term has been previously applied to systemic shifts in areas such as climate activity and perceived likelihoods of terrorist incidents.