Homeowner · Shore, NJ · Member since 2011 · 3 posts · 1 vote
I'm seeing commercial loan terms for 3,5,7 maybe 10yrs at 20/25 yr amort. Even though the rates are great now..when these come due, most likely rates will be way higher. What are some strategies if you are a buy/hold investor to plan for the inevitable rate increase? Pay off? refinance?
Well, if you like 30 year fixed rate loans, you like government interference, no matter what you say. Left to itself, "the market" wouldn't offer these. Even OO loans in Europe, which doesn't have government interference in this market, are ARM with fixed rates for only a few years.
Keep looking, though. You probably won't find banks offering 30 year, fixed rate, portfolio NOO loans, but 15 or 20 year products do exist. At least around here.
A payoff isn't really a good option if you are worried about ROE. Refinancing is an option, but it doesn't solve the rate fluctuation problem.
One very good solution is to seek new product you can purchase subject-to and learn how to mitigate as much risk of the note being called as possible. That won't help with your finance strategy for existing product, but it will help with your sourcing strategy for new product. The tradeoff is that it limits your investment pool to those properties you can purchase subject-to. You will also pay a higher price than you would with all-cash, no financing contingency offers.
Mine are 5yr with a 20yr am. I just refied them all thru note mods in order to extend out 5yrs from now and get lower interest rates (1%-1.5%). I had to pay 1/4 point, but had no other fee's and didn't need an application or updated financials. The average pay-back period is less than 9 months. I was 3 yrs into some of them. I am also paying down principal aggressively so that when they adjust up I will have a low balance (or no balance). I'll do it again if rates are still low in 3yrs.
It is a shame that these are the only loan products being pushed on investors. The loan officers must get an extra bonus for closing an ARM or Balloon loan for an investor. Whatever happened to 5-10-15-20-25-30-35-40 year FIXED financing? The loan officers now talk about fixed loans - but they mean they are fixed for ONLY 3, 5, 7 or 10 years. There needs to be some drastic changes made by banks & loan officers.
What is good for investors is bad for lenders. If you don't package those notes and sell them off in the secondary market the lender doesn't want to take the interest rate risk without a frothy interest rate.
Well I am sure that there is a large void for lenders to come in and offer these products Dale. The market rules when there is no gov-mint interference. I think that lenders rationally avoid making low, fixed-rate loans for more than a handful of years to indemnify their interest rate risk.
If you think there is opportunity here feel free to start a bank and lend on those terms.
If I could get a large pool of funds - I have considered looking at something to eliminate the bankers from the transactions. I wanted to use the name "The UN-Bank", but driving down the highway one day, I saw a credit union was using that as their slogan. The Bailey Brothers building & loan has also been taken. If/When I get the funds to do something like this, I will have to come up with a "new and improved" name for the business.
Well, if you like 30 year fixed rate loans, you like government interference, no matter what you say. Left to itself, "the market" wouldn't offer these. Even OO loans in Europe, which doesn't have government interference in this market, are ARM with fixed rates for only a few years.
Keep looking, though. You probably won't find banks offering 30 year, fixed rate, portfolio NOO loans, but 15 or 20 year products do exist. At least around here.
Dale, I wouldn't want to lend at these rates for 30yrs. I did read, however, that the average owner moves every 7yrs (if I recall correctly). So it would seem that the risk to lenders of rate increases is alot less than we think.
Your best alternative is to find a bank issuing ARM loans with 25-30 yr terms, that can't jump more than 6% over the life (and typically 2% in one year). Many banks will 'tolerate' the interest rate risk from this type of loan, though they'd prefer straight balloons, no doubt. So the combination of: the rate cap, the fact that a rising rate inflationary environment should push your rents up over time, and BUYING RIGHT will help ensure you still comfortably have positive cash flow if/when rates move up substantially.
I've thought about using my property reserve account and other funds to place hedging bets on rate increases, possibly through inverse bond market ETFs. The gains would help offset the hikes on your loan rates.
Banks aren't complete idiots (merely stupid). Their funding sources generally only go out 5 years. They can't issue LT fixed rate loans, that's a ticket to insolvency.
David,
that's interesting... tough part is finding the 25-30yr ARM. I find the hedging strategy very intriguing either through ETF or even a CD ladder as Rates increase. Any others?
I have a lengthy thread on BP about using futures to hedge rate movements from ARMs. The takeaway from the thread is that this is almost impossible to do in the real world. For small loans it probably isn't worth all of the effort either.
Note that prepayment of an ARM moves your payment down if rates don't move. This increases cash flow and helps to build in more margin for future rate increases. A long-term ARM like what David is suggesting may make the most sense if you have used all of your FNMA bullets and you don't intend to buy subject-to.
@Jon...If the gov-mint-backed loans all went away over night the pricing on all products would be impacted evenly. Thus owner occupant bidders and non-real-estate investors would have to compete with all others for debt capital and the playing field would be level. I think most capitalists dislike the government involvement in the finance market, but they procure these loans because it is a necessary evil to participate in the market. Absent these government distortions everyone would be able to compete for the product evenly.
Last year I was able to get one bank to change their 20 year loan to a 22 year loan. They ended up laughing it through the system. No matter what their specified terms, it doesn't hurt to ask.
Last year I was able to get one bank to change their 20 year loan to a 22 year loan. They ended up laughing it through the system. No matter what their specified terms, it doesn't hurt to ask.
Yup, you'll never know till you ask. I just got a 12 year loan.
Im a business banker as well as a real estate investor so I may have a different perspective on this.
The key is to really understand the institution that you are trying to lend from. A general rule is that the bigger the institution is, the less flexible they will be. Also, get bids from multiple banks which will force all parties to put their best foot forward if they really want the deal.
A lot changes over 5 years let alone 30 years. Couple that with historically low interest rates and its no wonder why banks don't want to commit to money at that rate for longer than 5 years. Who wants to lock in rates at 4.875% for 30 years when they could easily be 6% in 5 years and then have to honor that lower rate for 25 more years. That is just setting the table for another disaster.
There is much less bad debt for commercial loans compared to residental loans because they are monitored more closely and the banks generally hang onto the loans and you can be sure that they are going to be more careful when they are lending out their own money vs. somebody elses.
Basically, I think personal residential mortgages should be more like commercial property - have the loan be reevaluated at the 5 year mark and if the person can still afford it and everything is good then refinance and if not, tell them to sell the place. They would do this if they really wanted to fix the housing market but the problem is it would be too much work and it lower the values of homes back down to where they should be.
From the banks perspective, locking up money for 30 years is never a good idea for the same reason you don't have your tenants sign 30 year leases.
About a little over a month ago I shopped around for a 30 year loan. I talked to four local banks since I thought a local bank would give me a good deal. I was wrong. They offered me rates around 5.5 to 6.5%, with the option to lock in a new rate after a few years. I quickly left and went to bankrate.com. Capital One offered me a 30 year loan at 4.75%. So we quickly started a new relationship. Where I'm at, if this town wanted to attract businesses they need to learn to work with the big banks. At least that's what I see. Such a shame.
No rational lender would lend with no upside over 30 years Zachary. It takes gov-mint distortion to get this sort of interesting behavior.
Completely agree.
The only thing that banks like about 30 yr. loans is they are basically all interest within the first 5 years which is typically how long an average person stays in the same mortgage.
We've decided to stop buying and pay down like crazy. (We're 46 years old, just started 3 years ago and ahve 12 buildings / 49 units) Starting wit the biggest, highest interest loan we have (5.95%/142k/90LTV) (we only got a 90LTV becuase we pledged a small SFH as additional collateral that was free and clear, sort of an alternative to a cash out refi but with no cost) -- We dont' care about the ROE on paper. It's all about cash flow mgmt in this case.
IN under 7 years we'll pay off that mortgage then the rest will drop in 2-4 year chunks. (We'll put 1k extra now, then when it is paid off, double up to 2k for the rest of the paydowns).
Our income will skyrocket just when our child graduates high school (then plummet when we send her to college!) But we like the pay down factor.
We might not win the "best ROE contest" but we'll have MORE $$$ than we need to live on and we'll be free and clear long before retirment age.
Also, the more mortgages we kill off along the way, if rates skyrocket, we have a better chance of being able to plow existing savings into even faster mortgage paydown.
We do have several loans with the 2% reset cap / 6% lifetime cap which does mitigate SOME risk.