The Fed Funds rate and long-term mortgage rates moved in opposite directions last year, according to a report from the government which also analyzed adjustable rate, refinance and subprime volume.
The Office of Federal Housing Enterprise Oversight recently announced the release of Mortgage Markets and the Enterprises in 2004, a detailed research report on the developments in the real estate finance markets from 2003 to 2004.
OFHEO currently regulates Fannie Mae and Freddie Mac, which combined purchased $1.2 trillion in single-family loans from U.S. mortgage bankers last year -- almost half of the $2.8 trillion originated industrywide.
Last year's fundings sunk nearly 27% from 2003s record because of a big drop in the share of refinances -- to 46% from the prior year's 65% -- which is reflective of the drop in total refinance production. About 46% of refinances included 5% cashout, OFHEO said.
During the two years covered by the report, the interest rate environment was stimulated by the Federal Reserve, which had adopted an accommodative stance since the 2001 recession, but began raising its target for the Federal Funds rate in June 2004. After a string of increases, the target had jumped 125 basis points to 2.25% -- the highest level since October 2001.
In anticipation of the Fed's tightening, short-term interest rates began rising in the early part of the second quarter. By the end of 2004, the yield on the 1-year T-bill at 2.7% had increased 60 BPS since June and 150 BPS over the year.
The rates on adjustable-rate mortgages rose from a low of 3.4 percent in March to 4.2 percent by the end of the year. The annual average edged up to 3.9% from 3.8% in 2003.
But the Fed's actions didn't have the same impact on long-term rates. The 10-year Treasury yield, which the 30-year fixed-rate tends to move with, was at 4.6% the day of the first Fed target increase and ended the year at 4.2%. The 30-year fell to a low of 5.5% in March before rising to 6.3% around midyear and flattening out through the end of the year for an annual average of 5.8%, basically unchanged from 2003.
The low mortgage rates, along with strong housing demand, prompted the average rate of home price increase during 2004 -- 11.9% compared with 8.1% the year before -- to reach double-digits for the first time since 1979, with some regions experiencing higher growths, OFHEO said. Between 2000 and 2004, U.S. home prices increased 50.3%.
Big lenders continued to concentrate their market share, with the top 25 lenders responsible for about 80 percent of single-family mortgages, up 3% from a year earlier. Retail channels continued to be the largest providers, accounting for 41% of originations, which is around the average of the past three years. Wholesale channel volume increased to 31% from 28%, while correspondent lenders dropped to the lowest level since 1993 -- to 28% from 31%.
Despite the narrowed spread of about 80 BPS between adjustable-rate mortgages and fixed-rate mortgages, estimated ARM volume hit a record $1.5 trillion and ARM share jumped to a high of 34%, up from 19% in 2003 and double the level a year earlier. Driving the surge in ARMs were the dominating hybrid adjustable-rate mortgages and the increased demand for newer products such as interest-only mortgages and nonprime loans, which accounted for almost 20% of total originations.
A key factor behind annual originations amounting to the second-highest level ever was the record subprime volume -- which grew 59.6% last year to $530 billion, OFHEO reported. The subprime share of overall fundings jumped to nearly 18.9% from 8.7% in 2003.
Conventional single-family originations decreased 24 percent to $2.7 trillion, with government insured and guaranteed loans experiencing the steepest decline and to the lowest level since 2000. Federal Housing Administration volume fell 43 percent to $93.7 billion and veterans Affairs' certifications sunk 47 percent to $35.3 billion, according to the report.
Low mortgage rates and rapid accumulation of equity in properties aided the sharp decline in prepayments in 2004. Residential mortgage debt outstanding grew at a double-digit rate for the fourth consecutive year, by 13.4 percent to $8.7 trillion -- the highest annual growth rate in 18 years.
The average loan-to-value ratio of single-family, conventional, purchase-money loans rose for the first time in seven years to about 75%, OFHEO said, yet the share of mortgages with an LTV over 90% continued to decline.
The report noted that Fannie and Freddie grew their mortgage portfolios at the lowest rate in well over a decade. Internal difficulties, as well as changes in the mortgage markets reduced growth opportunities for the enterprises.
Higher consumer demand for ARMs and the overall mortgage production decrease, caused a marked decline -- a 53% annual downturn to $942.7 billion in 2004 -- in the GSEs combined mortgage purchases.
Altering the credit risks of Fannie and Freddie's purchases, was the composition of their purchases, such as a lower share of refinance loans, a marginal rise in their loans weighted average LTV ratio to 71 percent from 68 percent in 2003, and a larger share of ARMs, the report said.
Changes in the volume and composition of mortgage market activity affected the financial performance of the GSEs.
"Nevertheless, underlying business fundamentals of both Fannie Mae and Freddie Mac remained sound in 2004," the paper said.