With the economy showing new signs of strength, different economic challenges for the United States and elsewhere are emerging including a tightening of monetary policy at the Federal Reserve. The Fed is contemplating a decrease in its balance sheet in the near future, which has the potential to affect markets including housing and interest rates, according to a commentary written by Laurie Goodman of the Urban Institute late last month.
While the impacts of such a change may not be as generally disruptive to the reverse mortgage industry when compared to the traditional mortgage space, some potential impacts on reverse are possible according to an interview with Karan Kaul, senior research associate in the Housing Finance Policy Center (HFPC) at the Urban Institute.
The impact of tightening Fed policy on reverse mortgages
The impact of higher rates, whether caused by a deceleration of buying mortgage-backed securities or an increase in the Fed funds rate could potentially impact the reverse mortgage market by changing the economic equation for senior borrowers, Kaul says.
“Rates made it very economical for homeowners to get a cash-out refinance during the pandemic,” Kaul tells RMD. “And if you look at the data pre-pandemic and during the pandemic, you see a clear shift from second-lien products and home equity lines of credit (HELOCs) before the pandemic to more cash-out refinances during the pandemic when folks were refinancing and taking cash out. It’s just more convenient.”
Such a shift was observed during the height of the pandemic, Kaul says, and it can be argued that there was an impact on the reverse mortgage industry stemming from it.
“During the pandemic, a borrower that might have taken out a reverse mortgage to meet their needs [may have] found it easier and more efficient to do a cash-out refinance instead,” he says. “Now, with that script beginning to reverse over the last couple of months as forward mortgage rates have increased, we do expect fewer and fewer borrowers to refinance their mortgage to lower their rate. And by extension, what that means is that fewer and fewer borrowers are going to find it economical to do a cash-out refinance.”
A cash-out refi will lead to a borrower’s interest rate rising, which applies to the entire mortgage, Kaul says. This is potentially where higher volumes can come into play for other kinds of products, including HELOCs and reverse mortgages, he explains.
Home price appreciation in 2022
The level of home price appreciation (HPA) this year is also likely to play a role. In 2021, HPA was at historic levels. While appreciation is expected to continue in 2022, it is not expected to continue at the same pace as last year, Kaul explains.
“Last year in the pandemic, what we saw was a lot of people moving out of urban areas and into suburbs, and that caused a lot of home price appreciation in those areas,” he says. “In fact, if you look at even the prices of a couple of months ago, prices year-over-year were up in the range of 18%. I think they’re still going up around that pace, but I think there is some very, very early signs that price increases are going to slow down.”
“Slowing down” should not be confused with prices declining, he emphasizes.
“It just means that they’re going to go up at a slower pace,” he says. “So maybe what you see a year from today is that instead of house prices going up by 17-18%, they go up by 10-12%, which is still a really, really strong increase in house prices.”
The U.S. Department of Housing and Urban Development (HUD) and Federal Housing Administration (FHA) explained in last year’s FHA Annual Report to Congress that a major factor in the health of the reverse mortgage book of business inside the Mutual Mortgage Insurance (MMI) Fund came from elevated levels of HPA. Since HPA is still expected to grow, that health could look similar in 2022.
Potential effect on reverse mortgage refinances
With the potential for the reverse mortgage industry to expand the base of first-time borrowers it can serve, it’s only natural that the rate of reverse mortgage refinance volume would commensurately decrease, Kaul says.
“House prices will continue to go up, people are going to continue to build, homeowners are going to continue to build wealth in their homes,” he says. “Almost 18% is what house prices have gone up by in the last year. On a $400,000 home, that’s nearly $70-80,000 of additional housing wealth. That’s a lot of house price appreciation.”
Even at a lower rate of growth like 7-12%, Kaul says, that is a growth rate that remains healthy, and debt in retirement is not going away.
“I think folks having more equity and more wealth in their homes — and especially with seniors having more and more debt in retirement, I think longer-term that just means that there are households out there that have a lot of housing wealth,” he says. “[They’ll also have] limited incomes and lots of prior debt whether it’s from a primary mortgage, an auto loan or from credit cards. I think that bodes well for the reverse mortgage industry moving forward.”
Home renovations and aging supply
Another factor that could come into play for the reverse mortgage industry is the fact that existing housing supply will need to have repairs or modifications done to accommodate the seniors who hope to age in place, Kaul explains. While some of those seniors may first look at a HELOC to fund necessary home repairs or modifications, it’s a tall order to qualify for those products because of high FICO score requirements.
“We know a lot of people — especially seniors — are carrying a lot of different types of debt into retirement,” he says. “And for them, it’s going to be hard to get approved for a HELOC. For many of them, reverse mortgages may be the only game in town, especially with rising equity levels. So there is certainly an opportunity for folks to use reverse mortgages to make home improvements.”
The nationwide housing stock is aging rapidly, Kaul adds. As the stock ages, the need for repairs and additional maintenance or modifications only goes up, with the spend on such activities likely to increase in both the near- and long-term, he explains.
“That again means that folks with a lot of equity in their homes and limited means are going to need that funding to, for instance, add a new bathroom, repair their roof and make other improvements to their homes,” he says. “So, again, the industry is always going to get bifurcated. For someone who’s not able to get a HELOC, and if cash-out refinance is not an option, then they’re going to look at reverse mortgages. So there is clearly a lot opportunity there in terms of home renovation financing volumes in the future.”