How Will the ‘Brexit’ Impact Reverse Mortgages?

Britain’s historic vote to leave the European Union is already wreaking havoc on the global capital markets. While the long-term effects of the “Brexit” have yet to make their way across the Atlantic, financial experts speculate this decision will produce some short-term support for the U.S. housing market, and will have implications for reverse mortgages as well.

Long-term rates fell like a rock immediately following the Brexit vote. On June 24—the day after the EU referendum—the benchmark 10-year US Treasury rate fell by roughly 20 basis points to 1.56% as investors sought the safety of government bonds.

As rates fell, Home Equity Conversion Mortgages were affected as well. In the week following Brexit, LIBOR HECMs with a margin of 3.51% or less could pay the maximum Principal Limit, according to weekly rate data provided by Ibis Software Corporation. During the prior week, LIBOR HECMs with a margin of 3.59% or less could pay the maximum Principal Limit.

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Declining rates appear to have little impact on HECMs in the foreseeable future, however, the effect on the broader U.S. mortgage market could push rates down even lower than their current levels.

“The fall in rates will have very little effect on the available Principal Limit of a new HECM as most everyone’s margin is low enough that the Expected Rate (ER) is under 5.07% already,” said Jerry Wagner, president of Ibis Software Corporation, in an email to RMD.

“The ER is fixed at closing and for the life of the loan,” Wagner added. “So lower long-term rates are actually detrimental for any HECM with a payment plan (lower rates mean lower payments) and for any HECM with a monthly service fee (lower rates mean higher present values—the Service Fee Set-Aside).”

Mortgage rates in the U.S., which are currently around 3.5%, are likely to fall further if Treasury yields remain low, according to a recent report from Fitch Ratings.

“The expected dip in mortgage rates will provide incentive for many U.S. homeowners to refinance their outstanding mortgages,” write Fitch Ratings Managing Director Grant Bailey and Senior Analyst Rob Rowan.

Rates for much of 2014 and parts of 2015 were above 4%, meaning many borrowers could refinance to lower their monthly payments or shorten their loan terms. Strong home price growth in recent years also means refinancing could allow borrowers to tap into their built-up home equity, write Bailey and Rowan.

U.S. home prices have grown 30% nationally since 2012, according to the CoreLogic Case-Shiller indices. However, Fitch Ratings cautions that this rapid growth has outpaced the underlying economic fundamentals in some regions, such as Los Angeles and San Francisco, which Fitch notes are 10-15% overpriced.

“A further drop in mortgage rates could support momentum in these already overheated areas, increasing the risk of a sharp slowdown or price correction in the future,” write Bailey and Rowan.

The likely drop in U.S. mortgage rates following Brexit will also hurt valuations for some U.S. residential mortgage services, according to another Fitch Ratings report issued last week. However, not all servicers will be impacted equally.

“Mortgage Servicer Right-holding entities with more interest rate sensitive portfolios would be likely to feel the Brexit in terms of earnings and the ability to finance MSRs,” write Fitch Ratings Managing Director Roelof Slump, and Directors Johann Juan and Michael Laidlaw.

Independent non-bank servicers that do not have associated origination platforms and service mostly performing loans are most exposed to MSR volatility stemming from a lower rate environment where prepayments might be higher, the Fitch researchers added.

“Fitch will continue to monitor the effects of the interest rate environment on the U.S. residential mortgage servicing industry,” write Slump, Juan and Laidlaw. “In particular, though, Brexit-related market rate movements are likely to pressure the financial performance and activity of servicers who have struggled with the heightened regulatory environment and ensuing higher servicing costs.”

Written by Jason Oliva

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