LIBOR’s Exit Could Mean Gains for Reverse Mortgages

When the LIBOR index expires in three years, experts predict it will most likely be replaced by the Secured Overnight Financing Rate — and transitioning to this index could create billions in reverse mortgage gains and investor losses, a new article states.

According to Urban Institute researchers, a Federal Reserve group convened and recommended the SOFR to take the place of LIBOR. The LIBOR — London Interbank Offered Rate — is the rate that some of the world’s banks use to lend money to one another. When banks purposely misrepresented their lending rates — known as the LIBOR fixing scandal — it brought about the plan to replace LIBOR by the end of 2021, the article states.

Currently, the LIBOR sets interest rates for financial transactions totaling $200 trillion, including Home Equity Conversion Mortgages and other adjustable rate mortgages. The SOFR, unlike the LIBOR, is an unsecured rate, so it has historically meant that the SOFR is lower and less volatile, the article states.


“If SOFR was substituted for LIBOR, we estimate that, over the entire $1 trillion forward ARM market, this differential would give borrowers a change in cumulative payments and investors an increased cost of $2.5 to $5.0 billion a year, or $15 to $30 billion on a present-value basis,” researchers write.

For HECMS, 90 percent of recent originations and 60% of the overall HECM market — equalling $50 billion — is based on the LIBOR index.

“In the $50 billion LIBOR HECM market, the likely beneficiary would be the heirs or the Federal Housing Administration (FHA) for any paid insurance claims, and the investors in Ginnie Mae securities would face increased costs,” researchers write. “We estimate this transfer could be about $125 million a year, or a present value of $2 billion.”

They write that Fannie Mae, Freddie Mac, and their regulating Federal Housing Finance Agency must continue planning for this imminent transition.

“Given the scope of the potential impact on investors and consumers, it is important that the FHFA and the GSEs continue planning for the LIBOR change in the forward market and that the FHA think about the impact in the reverse market,” they write. “This is a complicated issue with no easy solution.”

Researchers said regulators are advising banks to continue submitting their numbers that make the LIBOR until the change is complete in late 2021 when the substitute is in place. Most adjustable rate mortgages have legal language regarding the substitution of a new index if the original one is no longer used, but there is little direction on what defines a proper substitute and what LIBOR’s absence would mean.

“There is also the possibility that the LIBOR will become increasingly unreliable before it expires. As banks begin to pull back from providing information, they may create what has been nicknamed a “Zombie LIBOR,” which would be an unreliable LIBOR index and a real risk,” they write.

Also, as its name suggests, SOFR is an overnight rate unlike the LIBOR.

“Efforts have been made to encourage the development of a longer-term SOFR, but this market has not yet matured, so it’s not clear how the longer-term SOFR will be priced. But by comparing the historic LIBOR and SOFR rates and comparing one-year LIBORs with one-year Treasuries (as a proxy for the still-emerging longer-term SOFR), we estimate that a one-year SOFR will be 25 to 50 basis points lower than a one-year LIBOR.”

Written by Maggie Callahan

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  • UI (Urban Institute) is not known as a conservative think tank. Their research is based on the recommendation of just one group. The trouble with this presentation it looks at borrowers, FHA, and to a limited degree Ginnie Mae investors in HMBSs.

    It is written in a way that readers could think that its findings extend to terminated HECMs. That assumes that SOFR replaces LIBOR retroactively which is in all likelihood is false.

    It was in mid October 2007 that the use of LIBOR was first granted by HUD (ML 2007-13). Since the ML was posted very near the start of fiscal 2008, a small portion of HECMs using the LIBOR index are found in the G&SRIF and the vast majority may make a great deal of the MMIF fund.

    Of course HUD/FHA does not need to adopt any index when LIBOR is no longer available. HUD already accepts the CMT index as it has from the inception of the HECM. It might also follow the lead of others so that HECMs are looked upon as having a more appropriate international index.

    If the Urban article turns out to be reasonably accurate, then expect investor premiums to drop considerably.

  • Wow, this could wind up being a mess for quite some time! May sound good for the borrower initially but not in the long run, all may lose in the long run, at least for a while any way!

    Hear again, time will tell what impact this will have on our retail customer and the investment community!

    What say you my colleagues?

    John A. Smaldone

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