Will the fixed-rate mortgage become extinct?

The landscape for mortgage financing is already shifting. Experts predict big changes over the next 25 years.

By MSN Real Estate partner Mar 26, 2014 8:52AM

Image: House with bills © Creatas, PhotolibraryBy Jeff Cox, CNBC


CNBCWhile homes will evolve considerably over the next 25 years, it is the way homes are purchased that will bear the heftiest transformation.


As the current path progresses, mortgage financing will look worlds apart from its current form. The government won't be offering the same guarantees as it's been for generations, big banks won't have the same incentives to get in the business, and borrowing rates will be considerably higher as regulation continues to increase.


Interviews with numerous pros in the business paint a picture of big changes to come -- not all of them consumer-friendly. Most spring from a dual dynamic of the government seeking to avoid calamities like the one that triggered the financial crisis in 2008 and the industry trying to innovate and continue to profit in a more restrictive environment.


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"Even in normal times, we are going to see in all likelihood higher rates, particularly for less-than-stellar borrowers," said Greg McBride, chief financial analyst at Bankrate.com, which provides consumers with information about the latest borrowing data and trends. "Anybody who's got a smaller down payment, some weakness in their credit history or isn't fully documented is going to face the hurdle of higher interest rates and potential limited credit availability."


That may not sound like a terribly bad thing to some ears.


After all, it was profligate lending to lower-quality borrowers that helped trigger the crisis. Wall Street paved the rest of the way, bundling those mortgages into securities that it sold to yield-hungry investors. When those packages of bonds went bust, large institutions saw their liquidity run dry, and some of the biggest names on the Street — and banking, in general — went under, while the government spent hundreds of billions rescuing others.


Two of the most significant entities in the debacle were Fannie Mae and Freddie Mac, the two government-sponsored enterprises that guaranteed so many faulty mortgages.

They were bailed out, too, and since then, the government has moved to prevent similar risk to taxpayers in the future. The efforts have culminated in a reform package that would substitute Fannie and Freddie with something called the Federal Mortgage Insurance Corporation. In the ideal, the agency will act in much the same way as its twin predecessors but with more risk to the private sector.


In practice, there's fear that the move will chase lending institutions away from making 30-year mortgages, force a nationalization of the banking system and disrupt a system that was fine by design but flawed in execution.


Whichever the case, the removal of an 80-year-old method of mortgage financing would represent a sea change in the pursuit of the American dream and is easily the most important trend awaiting housing over the next 25 years.

"I'm pretty skeptical that we're actually going to get a sustainable post-Fannie Mae/Freddie Mac housing market," McBride said. "If we do, I think that certainly mandates the increased desire for non-government-backed securities, and in particular, the role of shadow banking would increase."


Shadow banking is a nefarious-sounding but perhaps unfair term for nonbank lenders, such as Quicken Loans and Lending Tree.


The industry earned its scarlet letter during the crisis by being one of the prime suppliers of the low-quality loans that triggered the liquidity landslide. Countrywide Financial and its fly-by-night brethren became the face of the crisis as they loaned directly or indirectly -- through loan servicing -- to individuals who oftentimes borrowed without proof of income or agreed to mortgages that began with low "teaser" rates that surged following an introductory period of a year or two.


Non-bank lenders, though, are looking to regain their footing by raising lending standards and positioning themselves as alternatives to big banks that are reluctant to get into the low-profit high-risk business of home lending.


As a result, U.S. shadow-bank assets are up to $16 trillion, more than traditional banks.


Housing experts see shadow banking, as well as the emergence of more smaller lenders into the space, as the biggest collective trend the market will see in the generation ahead.


"It's going to be a regulated market in theory in a post-Fannie and Freddie Mac world, but it's going to be a market with distinctly private players who can have more flexibility in terms of their pricing, in terms of who their customers are," said Guy Cecala, CEO at Inside Mortgage Finance, a widely followed industry news and data source. "Government and/or taxpayers have been able to impose public-policy requirements. ... I don't think that would be easy to continue in this world."


The mortgage financing business has always been a bit of a quandary for big banks: Customers demand it, but the profit benefits aren't as good as many other parts of the business.


With the landscape shifting and the current atmosphere in Washington decidedly hostile to large financial institutions, many might simply quit the business and move on to other, less volatile areas.


While limiting consumer choice, it opens the door for other institutions to step into the breach.


"There certainly is an opportunity for different, smaller banks to enter into different parts of the market for all types of financing," said Jason Auerbach, divisional manager for First Choice Loan Services in Morganville, N.J. "Smaller banks have stepped up and have been able to insure that the housing market can continue to grow."


Auerbach's company is a subsidiary of First Choice Bank, which has just under $1 billion in assets. It ranked 680th in total assets at the end of 2013, according to usbanklocations.com. Yet the company is finding opportunity in the mortgage marketplace.


"Large banks -- they're not going too far outside the box," Auerbach said. "We are willing to offer niche products. You're going to see more banks turning into that marketplace."


Among the company's finance offerings: construction and renovation for jumbo borrowers, planned development communities, and condominiums and cooperatives that don't meet Fannie and Freddie guidelines. In fact, most of what the company offers falls outside the normal government guarantees, making it well positioned once the new structure takes effect in the coming years.


The $138 billion industry for Veterans Affairs loans offers another opportunity for the future of financing.


Grant Moon, founder and president of VA Loan Captain, said there will be a big market for finding homes as the U.S. unwinds its foreign entanglements.


"You have a lot of young people integrating back into society after fighting two decade-long wars. Then you have a reduction in forces going on from a military capacity point of view," Moon said. "What we've been seeing is continuous growth within the veteran loan industry, which is a unique mortgage in and of itself."


On the undercurrent of the sea change, though, is a sense of foreboding.


After all, the government is entering uncharted waters in trying to unwind a system that has prevailed for 80 years, so it's probably unrealistic to imagine that the new way of doing things will go off without some pretty significant hitches.


High-profile banking analyst Dick Bove, the vice president for equity research at Rafferty Capital Markets, has been raising his voice loudly in defense of the current system. He has been painting a dystopian picture of a government that frees itself of the unpopular dual-mortgage guarantors and replaces it with a nation of renters, where housing is unaffordable and inaccessible.


In one of his recent treatises on the subject, Bove had this to say:


The decision to tear apart the financial structures that were created over the past 80 years carries significant risk. The risk is that slums will be created across the nation as low- income households live together in ghettos, where the ownership of housing may be in large financial conglomerates far removed from the neighborhoods being impacted.
Moreover, housing subsidies, this well-used tool to stimulate economic growth in recessions, will be gone. Further, the transition from a subsidized industry to a privately driven real estate business carries with it the risk that the value of every home in the United States will decline in value, causing a recession.


Extreme? Time will tell. Many Washington political insiders doubt the current proposal to unwind Fannie and Freddie will succeed in its current form.


Those who subscribe to Bove's point of view certainly hope not. Others, it seems, will be left to sort through what's left over and find opportunities if the reform plan becomes law.


A final view on what Bove sees for the future:


The basic fact remains, the system of home finance created by this nation has served its people unusually well for 80 years, and I do not believe that it is about to be scrapped. (Former Federal Reserve Chairman) Alan Greenspan said in a CNBC interview that the Dodd Frank Act (to reform the banking system) was put in place by people who never sought to discover the reason of the Great Recession and that Dodd Frank is harming the economy.
I cannot believe that Congress is going to do this again in housing. This time, they will feel the brunt of the American people's anger as housing prices tumble across the country as ill-advised poorly-thought-out populist legislation is once again put in place.


More from CNBC


Apr 3, 2014 8:50AM
How the heII can this article be titled "Will the fixed-rate mortgage become extinct?" when the words "fixed", "fixed rate", or "variable rate" don't appear ONCE.
Apr 3, 2014 7:21AM

Too Big To Fail? Too Big To Exist!

Keep Rates Low!

Encourage Competition!

Break Up The Banks!

Apr 3, 2014 6:28AM
I recently contacted a realtor to find out what my home is valued at. To say the lease I was disappointed, but no to much, because I bought a fixer upper 9 years ago, so I'm not so much in the hole on the value of my home as to what I owe, I'll still walk away with a profit. But I was disappointed that the realtor told me what her percentage rate was to sell my house, It's the same rate that was being paid, when the housing market was good and we hadn't gotten to the recession yet, I thought, yeah, honey, keep dreaming, you need to come down where the true market is, not where you think it should be.
Apr 3, 2014 6:07AM


Are you kidding? Fannie and Freddie were the biggest perpetrators of packaging this crap. I used to do work for lenders that packaged all this crap for the lenders. I used to have all the idiot loan officers that would call me, "can you get this value? No, well___ down the street said he can." My response was, go let him do it. I had a file full of those crappy orders from "conventional" loan officers. Yeah, the ones that sold to Fannie and Freddie. SMDH.

Franklin Raines got HUGE bonuses despite all the problems. Democrats in Congress stonewalled, and would not step in. The pressure was never put on the loan officers, they were getting huge commissions. But it was on the appraisers. Look up the HVCC and how dirty that whole mess was. How do you go from suing the big banks because of appraisal management companies to making it easier for the "AMC's" to be in place? Quite simple....greed. The people that are writing this legislation are the rulers and they represent the rich. Have been for 100 years.


Wake up.

Apr 3, 2014 5:58AM
Discrimination is critical for lenders to be successful.  Everybody is not the same.  It is all Nobamas fault.
Apr 3, 2014 4:24AM
Great, now the banks will make adjustable mortgages the standard that will inflate the debt of the homeowner and the already tremendous profits of the banks and giant financiasl institutions.  Not too mention crush the housing market since paying a mortage over rent will no longer make sense in financial terms for the average family, thereby insuring that the land is bought up by only the very wealthy.  And I'm sure that those rates won't be raised aribitrarily or anytime the numbers need to be jacked up to live up to the ridiculous expectations set by the masters of the universe in the markets.  Holy christ we are running headlong into fuedalism and facsim, not socialism. The multi-nationals will start taking the first-born of every median income family to settle the debts they've rigged to grow exponentially through credit cards fees, fees on 401K's and pensions (the scattered carcasses of those left), and the manipulation of all interest rates standards and commodity prices, of which all has happened more prolifically as we get rid of those "growth crushing" regulations and leave the loopholes for the flacid ones left on the books. Yet the "media" only covers various Kardashian's asses, planes that disappear or fake wars on christmas and/or christianity.  I can't wait to see if the yellow flag waving tea party lemmings smile while they lick the fungus off their corporate masters' feet.
Apr 3, 2014 3:08AM
I love how this article flames Fannie and Freddie, yet fails to mention that they were not the ones peddling the no doc loans.  They were not the ones packaging loans up and selling them off with a bow and A+ rating.  Banks and fly by night lenders were.  And to date, no one ended up in jail. 

It wasnt government that caused this mess, in fact it was less oversight that caused this mess.  Remember the cries for deregulation?  Well we got it. 

Apr 3, 2014 2:44AM
The government needs to stay as far away as possible from ANYTHING remotely affecting the average person.  It was SPECIFICALLY government intrusion into the housing market which caused these problems.  Purchasing a home is something representing FINANCIAL STABILITY and status - meaning that if you are a poor credit risk - YOU DON'T GET A HOME!  This isn't Oprah, where EVERYBODY GETS A HOME - this is REAL LIFE - where you EARN the right to purchase and live in your own home by saving and living frugally until you scrape together a down payment.  When government decided that people who DIDN'T SAVE should get the same treatment as people who have shown repeatedly over time that they had the discipline to save and purchase a home, THAT'S where the trouble came in. Also, there's MUCH more to owning a home than simply making payments - there's UPKEEP.  The INNER-CITY shows us that some people WILL NOT care for ANYTHING - even section 8 housing that's GIVEN to them - so WHY do the Democrats think that everyone should own a home?  VOTES!  The Democrats will DO  ANYTHING and SAY ANYTHING to get a vote!  They DON'T CARE ABOUT THESE PEOPLE - THEY JUST WANT TO GET A NICE CUSHY JOB IN WASHINGTON - AND KEEP IT!  IF Democrats were REALLY working for the Middle Class, WE WOULD HAVE GOOD PAYING MANUFACTURING JOBS COMING OUT OF OUR EARS!  Anyone see this  happening?  There are some people who are RENTERS & APARTMENT PEOPLE!  There's no shame in that, but GIVING THINGS TOPEOPLE WHO HAVEN'T WORKED FOR IT IS WRONG!!!  I for one am tired of saving, living frugally and doing the right thing - only to continuously get slapped in the face by our government, who keeps giving away "freebies" to people who think they "deserve" things because of the color of their skin or their economic status!  IF YOU WANT SOMETHING - WORK FOR IT!  If it means that much to you, then it means you will save and wait until you can AFFORD something before purchasing it!  It ALSO means that you MIGHT care for it once you have it!!!  The explosion of the payday loan centers in the inner cities show us that they continuously think they should have things "just because they want it" - that's NOT how the world works and the sooner they find this out the better for us all !!!
Mar 28, 2014 8:39AM
The real estate market is the backbone of the U.S. economy.  The government and banks can't afford to discount the home buyer.  That said, if the housing economy turns down due to higher interest rates and/or a new influx of adjustable rate mortgages; politicians will exempt themselves from any law that they pass for us.  Until then; the folks at betchleyrealtygroup.com will help you find the best house at the lowest interest rate.
Mar 27, 2014 7:19AM
It's easy to look back now and say the banks were lending money to people who couldn't afford the loans.  But don't forget that members of Congress (and others) were threatening banks for not doing just that - saying they were discriminating against the poor and minorities by denying them a chance at the American Dream.  It was called red-lining and deemed to be racist.   
Mar 27, 2014 6:45AM
Perhaps the new way of purchasing a home in the future will be subsidies. You could call it the Affordable Home Act (AHA). If you make less than $30,000 a year your home is free. If you choose not to participate there will be a $100,000 annual fee (tax). Reporting your income will be on the honor system though :)
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