Today the FHA, the Federal Housing Administration, is a gigantic player in the residential mortgage business. The FHA guarantees mortgages against default, and allows purchases of homes with only a 3.5% down payment, and provides a rock bottom interest rate of near 5%. These lenient terms apply to virtually everyone, even those with poor credit scores and little equity in the home, which are highly correlated with default. This is in addition to the $8000 tax credit the US Government is issuing to first time buyers, which is boosting demand for these sorts of loans.
This article describes the measures that the agency is taking to reduce the odds of a bailout, but they don’t hit on the core issues of low down payments and not adjusting the interest rates to better reflect the risks on lower credit quality mortgages. These half-hearted measures require a tiny base of assets for mortgage originations (up to $1m from $250,000) and some changes to appraisals… the core issue here is that there were massive amounts of fraudulent mortgages that flooded into the system during the boom and when they went awry the brokers that backed them vanished into the night.
Many have pointed out that the FHA looms as a likely candidate for government bailout, such as this article from the Washington Post, titled “FHA’s Refusal to Seek Bailout Met With Skepticism”
FHA Commissioner David H. Stevens said Friday that the surplus fund set aside to cover unexpected losses on mortgages backed by the agency will fall below the 2 percent threshold required by Congress when the next fiscal year starts in October.
Although the reserves had remained well above the minimum required level during the housing boom, the audit last year showed they had shrunk to 3 percent as of Sept. 30, compared with 6.4 percent a year earlier. The fund’s value was estimated at $12.9 billion, down from $21.2 billion the previous year.
Many stories note that most of the loans that are being done today are backed by the FHA. From this article in the Wall Street Journal titled “No Easy Exit for Government as Housing Market’s Savior”
The Denver home lender sees every day how dependent the housing market has become on the government. At the height of the boom, just 20% of Universal’s mortgages were backed by the Federal Housing Administration, an arm of the government that guarantees loans to borrowers who can’t afford big down payments. Today, the FHA accounts for more than 80% of his business.
Also note that the US Government is buying most of the securities that are backed by the FHA. Private banks are not interested in purchasing securities with low returns and thus the government secures the loan on the front end, and then repurchases the securities on the other end.
At the Fed, the question of whether to start dismantling the scaffolding is a dominant one. Since the beginning of the year, the Fed has purchased $836 billion of mortgage-backed securities issued by Fannie Mae, Freddie Mac and Ginnie Mae, the federal body that securitizes FHA loans. The purchases have helped push down interest rates on mortgages guaranteed by the firms from more than 6.5% last October to 5.15% today, according to HSH Associates, which tracks the mortgage market.
