In the world of official real estate, a place populated by trade associations, economists, politicians, poo-bahs and other defenders of the status quo, the first-time homebuyer is sacred.
First-time homebuyers inhabit the first rung on the homeownership ladder. Unlike repeat buyers, who sell a home when they buy one, a first-time buyer’s purchase is a net gain by reducing excess inventory. That pushes up home values. Investors do the same thing—sometimes ten or twenty times a year—but they don’t seem to get as much credit for it, even during the depths of the housing depression when investors were the only game in town in foreclosure-ravaged markets.
First-time homebuyers also are the newest recruits and next generation of homeowners who have a vested interest in maintaining the incentives that reward families for buying homes, which range from the mortgage interest deduction to Federal Housing Administration loan guarantees to mortgage rates subsidized by the Federal Reserve and guaranteed by Fannie Mae and Freddie Mac.
Now, according to Lawrence Yun, chief economist at the National Association of Realtors, where I once worked, dwindling inventories of foreclosures are pitting investors against first-time buyers who are frantic to get their hands on an affordable home before prices rise, and investors are winning. Lending standards are still much too strict to afford most first-time buyers the opportunity to buy a home, Lawrence explained in a recent interview, and he cautioned that if this trend continues, investors with large down payments or cash offers will reap the greatest reward.
Indeed, cash-rich investors are “crowding out hunters of lower-priced properties” as the New York Times put it last month, and are causing the first-time buyer market share to decline, creating the leading public relations problem investors face ( The Media’s Negative Spin on Flipping Houses and Investors).
Time out. There are so many half-truths and myths clouding the question of first-time buyers and investors that perhaps it’s time for a reality check on a few of the widely held shibboleths that are cluttering up this discussion.
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First-time Homebuyers are Doing Just Fine.
In the New York Times story cited above, NAR’S monthly Realtor Confidence Index survey had November first-timer purchases at 31 percent; the other survey, by Campbell/Inside Mortgage Finance, had November first-timer market share at 34 percent.
It’s to be expected that the first-time buyers’ market share would fall in the fall and winter. Real estate is, of course, largely a seasonal business and home purchases by owner-occupants normally decline in the fall, including first-time buyers. However, investors buy year around. The 31 percent first-time buyer market share in November 2012 wasn’t very far from the 32 to 36 percent of existing home sales through the spring and summer buying season in the first seven months of 2011 as reported by NAR. The 34.7 percent market share cited by the Campbell survey, down 37.1 percent in June, was a fall of only 2.5 points in five months. Media coverage noted it was the lowest first-time homebuyer share ever recorded in it’s the survey’s three year history, a rather meaningless claim since during at least two of those three years the first-time buyer market share was skewed by the first-time buyer tax credit, which artificially inflated and then depressed first-time buyer market share.
It’s worth asking whether these data are accurate enough to measure such slight changes in market share. Both surveys poll large samples of real estate agents monthly (2500 agents in Campbell, 3700 in NAR). Many more real estate agents represent first-time buyers than active investors. The MLSs that most Realtors rely upon for local market data typically do not track sales to first-time buyers or to investors. Is it possible that the surveys are more sensitive the changes in first-time buyer activity than investors?
The best available data indicate that first-time buyers are doing just fine today. NAR’s own highly authoritative Profile of Home Buyers and Sellers, released in November 2012 and based not on a survey of Realtors but on responses from 8,501 actual buyers and sellers, paints a much different picture. “The share of first-time home buyers rose slightly to 39 percent in 2012, after the drop to 37 percent reported in 2011 from 50 percent in 2010. This is very close to the historic share of 40 percent, which is a good sign of the market returning to normal conditions,” according to the NAR Profile.
Today’s Lending Standards are Strict but not Restrictive.
Raising lending standards after the 2006 subprime debacle was not optional if America’s mortgage finance system was to survive. Today many, including Fed Chairman Ben Bernanke, think the pendulum has swung too far and standards are unnecessarily tight. That may or may not be the case, but it’s hard to fault lenders for wanting to protect themselves after what they have been through.
Despite all the whining about lending standards blocking first-time buyers, the simple fact is that anyone with a good job, low debt and good credit can get a mortgage today if they want to. They may need to put 10 percent or more down to improve their loan to value ratio. They may need to find a house that doesn’t push the limits of their ability to repay. It’s probably a good idea to scrub your credit history and do all the little things right, like buying nothing on credit until after closing. But tens of thousands of first-timers are getting mortgages every month.
Reviewing the latest data from Ellie Mae, whose mortgage platform processes some two million mortgage originations a year, about 20 percent of the nation’s total, it’s hard to see what the problem is. In November, 2012, 60.8 percent of all purchase mortgage applications were approved, up from 55.2 percent a year ago. The median FICO score of FHA purchase loans, which are very popular with first-time buyers because of their low downpayment requirements, was 698 in November. The national median FICO average score for all consumers is 723 and the average FICO score to get a used car loan is 670.
By comparison, first-time buyers are faring much better than existing homeowners when it comes to getting financing. Refinancing owners have a significantly lower closing rate, 48 percent, than those getting purchases mortgages and the median FICO score for FHA refinancing loans at 712 is 14 points higher than FHA purchase loans.
As a blogger on Zillow put it last year, “Anyone who claims it is hard to get a mortgage must have been born after 1990 and is remembering only 1999 and on. It is true; a pulse is no longer the only requirement. FHA requires you have a FICO score of 585 and your loan to debt ratio can’t exceed 45 percent.”
“All Cash” Does not Mean No Financing. Most Investors Finance Just Like First-time Buyers.
In the skirmishing between investors and first-time buyers over declining numbers of foreclosures and short sales, investors have an advantage because they usually pay all cash while offers from first-timers are contingent upon a mortgage getting approved. It’s no surprise that sellers much prefer cash.
The “all cash” image, however, conveys the false impression that investors are flush with fists full of dollars, have no need of financing and first-time buyers have no chance.
Nothing could be farther from the truth. Though they show up with cash, investors more often than not are obtaining commercial or private equity financing to make acquisitions. Moreover, the rates of interest investors pay on borrowed money are significantly higher than the federally subsidized mortgage rates first-time buyers pay for a residential mortgage, which today is below 4 percent on a 30-year fixed loan.
A May 2011 survey of investors by Move, which I designed, found that investors who can afford to pay all cash have a negotiating advantage with sellers, but most have to finance a substantial amount of their purchases. The survey found that eight out of 10 real estate investors (80.5 percent) expect to get a discount from sellers if they pay all cash for properties and two out of three (65.5 percent) believe that problems buyers are having getting mortgages make it easier for them to compete with first-time home buyers. However, only 18.5 percent of investors say they use 100 percent of their own money to buy properties. More than half (59.5 percent) pay less than 50 percent down and finance the remainder. Wealthier investors earning more than $75,000 are less likely to pay all cash (20.7 percent) than those earning $40,000 to $49,000 (33.3 percent).
A recent survey of investors by BiggerPockets and Memphis Invests, which I also helped to design, found that access to financing is a critical issue for most investors, but they face hurdles first-time buyers never encounter. For example, most lenders put limits on the amount they will lend an investor, regardless of credit history, property values or track record. Nearly half of all investors, 44 percent, would be willing to put down more than 20 to 50 percent on a business loan in order to be able to borrow more from a lender without limits.
The Beginning of the End of the Foreclosure Era
Tight inventories of foreclosures and short sales are here to stay, except for some temporary regional and local conditions caused largely by state laws, and in time supplies will grow even tighter. Defaults have been declining for two years as a result of the tighter lending standards discussed above and there are 20 percent fewer properties in the foreclosure process today than a year ago. The days of the Foreclosure Era are surely numbered.
For now, thanks to Robogate, state laws that slow foreclosure processing and the nation’s halting economic recovery, large numbers of discounted foreclosures and short sales are still available. Some 1.2 million are still in the national foreclosure inventory and 2.3 million are in the shadow inventory. Together these inventories total 3.5 million homes, nearly as many as the 4 million lost to default since 2007, however unlike the first waves of foreclosures six year ago, demand will be strong for them. Over the next few years, these final foreclosures will trickle onto the market and be purchased quickly by first-time buyers, growing numbers of individual investors, and the new hedge fund entrants flush with cash. Soon enough, listings of short sales and foreclosures will look more like they did in 1997 than 2007.
Photo: Christopher Koppes