Fannie’s Mae and Freddie Mac’s Stealth Economic War on the Millennials

During the past 35 years we have had a buy now, and hope someone else will be stuck paying later economy. And as a result the generations born after 1957 or so have been left much poorer. But leaving the generations born after 1957 or so much poorer is apparently not enough for those older and more powerful to get everything they have promised themselves, but refused to pay for.

The millennials already receive lower pay, have higher debts, will be forced to pay higher taxes, will need to pay privately for what older generations had received as public services, and will need to save for what older generations had received as public old age benefits, at their expense. But for Generation Greed to finish cashing in, the millennials also have to keep spending money they do not have – to prop up consumer sales so the economy doesn’t finally collapse.  And to prop up stocks prices and housing prices at a level high enough for Generation Greed to sell. I recently found out just how crazy things have gotten just to keep the party going just a little bit longer. It is now federal policy that young homebuyers should pay so much for houses that 50 percent of their income goes for debts. Think I must be joking? Think that can’t be true?  Read on.

The federally-sponsored mortgage securitizers, Fannie Mae and Freddie Mac, have a set of standards that mortgages must comply with for them to be purchased by the agencies, and then turned into bonds sold to the public. The mortgages that comply are called “conforming” loans, those with a high chance of being paid back.

Banks and other financial companies don’t want to get stuck with the mortgages they issue, so most will only issue mortgages that comply with Fannie Mae and Freddie Mac standards, so the agencies will buy them. One of the standards is the percent of the borrower’s stable income that would go toward paying back the mortgage, and other debts. The DTI, debt to income ratio.

Initially, the standard was mortgage payments could be no more than 25 percent of the borrower’s stable income, with total debt payments equal to no more than 30 percent. Among other things, this standard kept the average price of houses stable relative to the average incomes of first time buyers, who tend to be younger people.   The standard thus also placed a limit on the price older sellers could get for their houses, and thus the price of another house they might buy. The standard prevented homebuyers from bidding up the price of housing until they couldn’t afford to pay the mortgage – or as a result of paying the mortgage couldn’t afford anything else.

The DTI started to rise during the 1980s housing bubble in the Northeast and in California, when the financial industry found people were already too deep in credit card debt to qualify for conforming mortgage loans. When we bought our house in 1994, after the 1980s bubble deflated, the conforming DTI was 28 percent for the mortgage, and 36 percent of total income going to debt. That allowed the price of housing to inflate more, before crashing, in at least some parts of the country.

Then during the 2000s housing bubble private banks started turning mortgages with far less stringent rules into their own bonds, allowing the price of houses to soar relative to buyers’ incomes. Fannie Mae and Freddie Mac followed along. When this ended with the financial crisis in 2008, Fannie Mae and Freddie Mac, which had been privatized in the early 1970s, were bailed out and taken over by the federal government, under the leadership of former Goldman Sachs executive and then U.S. Treasury secretary Hank Paulson.

The financial crisis revealed how much worse off most Americans had in fact become, by removing the false prosperity created by ever-rising debts. Housing prices, and stock prices, started falling toward a level that reflected the lower incomes and buying power of younger homebuyers and retirement savers. And thus the paper wealth of older, existing homeowners, bondholders, and stockholders, and the rich, was falling as well. The federal government stepped in by vastly increasing its own debt, and contingent liabilities, to bail them out, even as millions of ordinary people ended up unemployed and foreclosed.

What would have happened if the federal government had not stepped in to prop up asset prices?

Perhaps older homeowners, in order to sell their houses, would have had to reduce their prices until younger homebuyers would have only had to pay 25 percent, 20 percent, or even 15 percent of their incomes for the mortgage. Allowing them a better life with more money to spend on other things from that point on.

Perhaps stock prices would have fallen until the dividends public companies paid out to shareholders would have provided an annual return of 4 percent (the long-term average), 6 percent, or even 8 percent of the purchase price. Instead of just 2 percent or less, which is what anyone who saves money and buys into stocks and bonds at the (re) inflated prices of the past few years is locked into.

But that wasn’t allowed to happen. Instead, I found out last year that Fannie and Freddie had increased the DTI to 45 percent.   That’s 45 percent of homebuyers’ incomes going to debt! (Presumably another 25 percent and rising for taxes, and they’d better be saving 20 percent for retirement because they won’t be getting Social Security and Medicare, but they have “time to adjust.”)

What was the result? Did a higher DTI make easier to buy houses? Nope, it just allowed sellers to raise prices until buyers HAD to pay 45 percent of their income in debt service.

NAR metro-home-prices-q3-2017-single-family-2017-11-02

Just between 2014 and the third quarter of 2017, according to the National Association of Realtors, the median existing home sales price increased by 21.6%.   The median wage? Probably a third of that, at most.

There are many metro areas, such as New York, where housing prices had soared prior to 2014. But the last three years have seen housing prices soar even in metro areas that had previously been somewhat affordable.

By 23.0% in metro Louisville, 23.5% in Minneapolis-St. Paul, 24.1% in Columbus, Ohio, and the same amount in metro Chicago, 24.6% in metro Kansas City, 25.4% in Phoenix, 28.0% in Nashville, 28.1% in Altanta, 28.2% in Raleigh and 31.7% in Durham-Chapel Hill, 32.2% in Dallas-Fort Worth, 34.8% in Denver, and 50.0% in Toledo. Toledo? That’s in three years.

Young homebuyers’ incomes have not increased by that much, on average. Instead, the share of their incomes they are paying for debt has soared. All so existing homeowners can sell for higher prices, even more booty for the already advantaged, or re-borrow against their homes and spend the proceeds. Which more and more are doing.

I was going to comment about this on an article about soaring housing prices. I searched the internet to find something to cite and prove that the DTI had been jacked up to a stunning 45 percent. But what I found was even more stunning.

Fannie Mae, the largest source of US mortgages, is making it a little easier for people with all kinds of existing debt — including student loans — to qualify for mortgages. The change will kick in on July 29 when the debt-to-income ratio (DTI), a measure of a borrower’s capacity to make payments, rises to 50% from the current 45%.

Which means they can qualify for a mortgage on a house with a higher price, and will thus bid against each other to drive the price higher.

Student loans are the largest source of debt in the US apart from mortgages. And so, this eased requirement could benefit millennials who are looking to buy their first homes. Amid accusations of overspending on avocado toast and, more plausibly, escalating home prices, the homeownership rate for Americans under 35 — and the rest of the population, in fact — is at the lowest level in several decades.

Which could be a problem for a very large, very affluent, and very entitled generation that is counting on selling its homes at very high prices to the poorer generations behind them.  With lower household incomes despite doubling up to get more wage earners in the household.

Median Household Income Age of Householder

The American Enterprise Institute has noted that several lenders are already raising the share of borrowers they approve with DTIs above 43%. That’s the threshold recommended by the Consumer Financial Protection Bureau, though lenders can breach it if they can reasonably show that the borrower won’t default.

Note that the Trump Administration, looking to create one more debt driven party for Generation Greed, wants to neuter that agency, and has placed an anti-government insider who has called for it to be abolished in chare.

And while these looser standards may bring flashbacks of the housing bubble, Fleming says the current market environment is not quite the same. At least lenders bother to verify income, demand a downpayment, and check the DTI ratio.

Freddie Mac matched the 50 percent.

Mortgage giants Fannie Mae and Freddie Mac are allowing borrowers to have higher levels of debt and still qualify for a home loan. The two are raising their debt-to-income ratio limit to 50 percent of pretax income from 45 percent. That is designed to help those with high levels of student debt. That means consumers could be saddled with even more debt, heightening the risk of default, but the argument for it appears to be that risk in the market now is unnecessarily low.

Here’s another piece of an incomplete behind-the-scenes puzzle of the housing market that has surged to new record highs. Fannie Mae — one of the Government Sponsored Enterprises (GSE) that guarantee eligible mortgages and package them into mortgage-backed securities that are then sold to institutional investors — had some disconcerting words in today’s Mortgage Lender Sentiment Survey for Q2:

More mortgage lenders say they have eased credit standards recently and expect further easing in the coming months. Why? Cooling demand for mortgages.

The report pointed out that this drop in demand for purchase mortgages confirms Fannie Mae’s report earlier in June that found that Americans were souring on the housing market, with the percentage of those thinking that now was a good time to buy a home dropping to a record low.

Apparently millennials are not stupid. Or not enough of them are stupid enough to satisfy those who control the federal government. Thus the increase in the DTI.

This survey is another piece of the puzzle of a housing market that has boomed in many cities beyond what is sustainable and affordable. Now the Fed has embarked on raising short-term yields and has brought them up one percentage point. Long-term yields continue to drop, and mortgage rates remain historically low. But the Fed is now also targeting long-term yields with its strategy of unwinding QE.

QE was designed, among other things, to bring down long-term yields and mortgage rates, and it did so successfully – hence the surge in home prices. Unwinding QE, including shedding the mortgage-backed securities now on the Fed’s balance sheet, will eventually have the opposite effect, just when home prices have surpassed the prior crazy bubble peak – in some cities by a big margin.

Great for sellers. Disaster for anyone who buys, who then becomes locked into a higher cost of living on a lower wage for the rest of their lives. And yet since Fannie Mae is now a federal agency, pushing millennials to go deeper in debt to bid up the price of housing – to benefit sellers – is federal policy.

Moreover, back when Fannie Mae and Freddie Mac were private, there was a dance around the question of whether or not taxpayers were on the hook for losses caused by mortgage defaults. Now that the federal government controls them, there is no doubt. Older generations and richer people, demanding a tax cut over the next decade, won’t be harmed by this at all. Ordinary people born after 1957 will pay for it collectively the rest of their lives – on top of 50 percent in debt service personally.

Just imagine what will happen when those who bought at those inflated prices see the value of their home drop by 20 percent or more, at the same time they are laid off from their job. Whatever money they lose individually would merely add to their share of the loss that has been socialized.   Especially if, as in the (prior) financial crisis, the federal government decides that those who hold Fannie and Freddie bond are exempt from any investment losses.

Where is the objection to this? Who is raising questions? Who is saying this is unfair? Instead we hear the opposite – millennials are being pushed to pay more of their income in debt as a benefit to themselves.

Here’s some good news: The country’s largest source of mortgage money, Fannie Mae, soon plans to ease its debt-to-income (DTI) requirements, potentially opening the door to home-purchase mortgages for large numbers of new buyers.

How is having those under age 45, trying to buy a house, pay 50 percent of their income in debt service “good news?” Aren’t later-born generations already disadvantaged and overburdened enough?

If you are such a household, don’t buy, whatever you do. Decide that no matter what it takes, Generation Greed is going to have to cut its price so low that lower mortgage payments as a percent of income make up for all the other disadvantages and burdens they are imposing. Better to rent for years, or decades, in a new apartment building – preferably one that is located in a place were you can bike things so you aren’t dependent the collapsing transit system and don’t have to borrow to buy cars either. At least building those new apartment buildings, and maintaining those bicycles, would create some local jobs. Anyone who actually cares about anyone under age 60 would agree.

Let’s remember that even in the post-crisis lending world, mortgage lenders want to approve creditworthy borrowers for the largest mortgage possible. I wouldn’t call 35 percent of your pretax income on mortgage, property tax, and home insurance payments “conservative.” I’d call it average.

On the flip side, debt-hating Dave Ramsey wants your housing payment (including property taxes and insurance) to be no more than 25 percent of your take-home income.

And remember kids, those property taxes are not going to services as schools, transit and other public services are gutted, to pay Generation Greed’s debts and pensions.