KATHLEEN SCHRECK
Responsibility important
In recent years, more and more consumers have been given the opportunity to finance a home. As lenders create more products to reach all types of consumers, borrowers who never dreamed of buying a home have been able to do so thanks to a plethora of new loans that have hit the market in the last several years. But as interest rates tick upward, albeit slowly, one major player is warning against “exotic” mortgages and local lenders are taking notice.
In July, Federal Reserve Chairman Alan Greenspan delivered his midyear economic outlook to the House Financial Services Committee. While he was generally upbeat about the future, Greenspan did warn that “exotic” mortgages like interest-only loans coupled with rising interest rates or falling home prices in certain markets could create “some economic distress” for the United States and be “disastrous” for some homebuyers.
Most local lenders have voiced agreement with Greenspan’s assessment, while others simply say lenders should always be watchful of the products they provide to consumers.
“We should always be responsible and be aware of the market we are in,” said Kathleen Schreck, chairwoman of the Massachusetts Mortgage Bankers Association and sales manager at Mortgage Network in Danvers.
However, Shreck said that despite Greenspan’s warnings against “exotic” mortgages, the products are well suited for some consumers.
Other lenders in the Bay State wholeheartedly supported Greenspan’s warnings, saying consumers who are using “exotic” mortgages simply to squeak by could be in the most danger.
“I agree with [Greenspan’s] concern for some customers,” said Charlie Nilsen, New England regional manager at JP Morgan Chase in Braintree, who added that individual borrowers need to understand the products and scenarios that they could face down the road if interest rates escalate or real estate values fall.
Nilsen cited interest-only loans and short-term adjustable-rate mortgages as a couple of the products that should be used with caution, saying he has seen more people ask for the interest-only mortgage.
“Lenders were introducing the borrower to the concept,” Nilsen said.
There are customers who are using that type of loan simply to get the lowest payment, which Nilsen said can be dangerous. He said people who request the interest-only loan with a minimum down payment could be hit harder if there is a downturn in real estate values, putting them in a tough equity position, or if employment becomes soft.
“We’re trying to encourage them to go with loans where the payment amortizes,” Nilsen said.
However, there are some borrowers who fit the criteria for an interest-only loan and use it as a financial tool, Nilsen noted. Those who plan to pay the principal down due to an influx in income, such as a bonus at the end of the year, are better candidates for products like the interest-only loan.
‘Renting the Money’
According to Dean Caso, president of Homevest Mortgage in Needham, there are three areas of “exotic” mortgage products: negative amortization loans, high loan-to-value loans and interest-only mortgages.
“If you are a first-time homebuyer Â… and the sole reason you are getting into [an interest-only mortgage] is to get the payment lower, you could get into a lot of trouble,” Caso said.
With 100 percent financing and option adjustable-rate mortgages available, Caso said it is important to remember that such products are designed for sophisticated borrowers. An option ARM gives the borrower the option of making a minimum payment, paying interest only or a fully amortized payment. There is typically a rate that is locked in for an introductory period and, subsequently, a fully indexed rate takes effect.
Caso said if a borrower only pays a minimum payment of $500 instead of the fully amortized payment of $1,000, the additional money is tacked onto the loan. If the borrower is betting on appreciation of the home and there is a dip in real estate values, the borrower could be in trouble.
Homevest Mortgage has only done a few interest-only mortgages, and Caso said he doesn’t view them as a great product.
“All you’re doing is renting the money,” he said.
While most of Caso’s customers are unlikely to get an interest-only loan, he said there are plenty of lenders who will offer them.
“There are certain lenders that are out there just to increase originations,” he said.
Caso said he agrees with the Fed chairman this time around, saying rates will turn and home appreciation won’t be there.
“Greenspan is right,” Caso said. “It’s going to blow up.”
Rick Fedele, president of Boston-based Summit Mortgage, said banks and lenders “need to police themselves” when offering a consumer an “exotic” mortgage. Every product in the marketplace, he said, is appropriate for some consumers and inappropriate for others. Interest-only mortgages can be “deadly” if in the wrong hands, but overall Fedele had positive things to say about the product.
“I love the interest-only,” Fedele said. “I’m tired of all the hysteria about how evil these programs are.”
Fedele admitted the loan shouldn’t be used to “stretch” people into qualifying for a loan, but said it can be a strong product for certain customers.
Currently, Summit offers a five-year interest-only loan that constitutes about 25 percent of the company’s business.
“The five-year gives us plenty of time to ride through an interest-rate cycle,” Fedele said.
Summit is offering about 50 percent fixed-rate mortgages and 50 percent adjustable, half of which are interest-only. Fedele said he doesn’t offer loans with balloon payments and doesn’t offer a lot of option ARM loans.
Denise Leonard, president of the Massachusetts Mortgage Association, said the risks of “exotic” mortgages are hard to determine.
“The risk is long-term, but people are not utilizing [these mortgages] as long-term solutions,” Leonard said.
Like other lenders, Leonard said customers who have requested such products at her company, Constitution Financial Group in Wakefield, are generally savvy. The company has only processed a small amount of interest-only loans.
“We don’t suggest it as a solution – only if people ask us,” Leonard said.
Fedele agreed, saying that customers inquire about such loan products in many instances.
“Around here, we see most of our clients understand it,” Fedele said.
With so many more products and a volatile interest-rate environment, the majority of the lenders say they are counseling consumers more than ever before.
Most of the lenders say the bottom line is that the loans in question aren’t all bad, but consumers must be educated and lenders must be careful about to whom they’re providing the loans. Nilsen said products like interest-only and option ARMs haven’t been tested in enough business cycles to see the effects yet.
“This is new,” said Nilsen.
However, according to Fedele, the “exotic” mortgages have been around long enough to gauge their success. He said the popularity hasn’t changed for some time, with about a 50/50 split of five-year interest-only loans and fixed-rate mortgages.
Regardless, Nilsen said one thing is for sure: “[These products] are here to stay.”
