McLEAN, VA - In the third quarter of 2006, 89 percent of Freddie Mac-owned loans that were refinanced resulted in new mortgages with loan amounts that were at least five percent higher than the original mortgage balances, according to Freddie Mac's quarterly refinance review. This percentage is up from the second quarter of 2006, when the share of refinanced loans that took cash out was a revised 88 percent, and is the highest since the second quarter of 1990.
"Mortgage borrowers continue to refinance their mortgages at a higher frequency than historically would have occurred given the rise in mortgage rates over this year," said Frank Nothaft, Freddie Mac vice president and chief economist. "But the wide proliferation of adjustable-rate mortgages (ARMs) originated in the past few years that are nearing their first interest-rate adjustment provides borrowers an incentive to refinance into a lower-cost ARM or fixed-rate mortgage. In addition, borrowers who might have considered a prime-rate home-equity loan for a home improvement or other need are turning to cash-out refinance options now that the prime rate is above 8 percent.
"While the refinance share of applications is still strong, the share of all mortgage applications that were for refinance did slip for the third consecutive quarter to 41 percent from 42 percent in the second quarter of 2006, according to Freddie Mac's Primary Mortgage Market Survey®."
Through the first three quarters of 2006, 30-year fixed mortgage rates have averaged three-quarters of a percent higher than over the same period in 2005 and now average close to 6.4 percent. Freddie Mac expects 30-fixed mortgage rates to average between 6.4 and 6.6 percent through the end of 2007 and initial rates on 1-year Treasury-indexed ARMs to hover between 5.4 and 5.5 percent.
In the third quarter of 2006, the median ratio of new-to-old interest rate was 1.12. In other words, one-half of those borrowers who paid off their original loan and took out a new one increased their mortgage coupon rate by 12 percent, or roughly three-eighths of a percentage point at today's level of fixed mortgage rates. This is the highest ratio since Freddie Mac began compiling this information in 1985.
"High demand for cash-extraction through refinance is being driven by the high cost of home-improvement loans and home-equity lines of credit, that is, the cost of alternative financing, and still-strong demand for home improvements," said Amy Crews Cutts, Freddie Mac deputy chief economist. "This quarter we saw $82.8 billion cashed out, down from a revised $90.6 billion cashed out in the second quarter of 2006. Cash out refinance volume is expected to decline further in the fourth quarter to less than $65 billion, due to lower expected refinance shares overall and lower mortgage origination activity.
"To attract homeowners interested in accessing accumulated home equity but not ready for a refinance of their first-lien mortgage, banks are now starting to offer more creative financing for home-equity lines, with many offering a fixed-rate line of credit option at or below the prime rate. These fixed-rate second-lien alternatives, which protect borrowers from future interest-rate increases, may reduce interest in cash-out refinances of existing first-lien fixed-rate mortgages. However, if borrowers are already refinancing to avoid an interest-rate increase on their adjustable-rate mortgage, they may opt to extract a little cash while they are at it."
The Cash-Out Refinance Report also revealed that properties refinanced during the third quarter of 2006 experienced a median house-price appreciation of 33 percent during the time since the original loan was made, down from a revised 34 percent in second quarter 2006. For loans refinanced in the third quarter of 2006, the median age of the original loan was 3.4 years, about two months older than the median age of loans refinanced during the second quarter of 2006.
These estimates come from a sample of properties on which Freddie Mac has funded at least two successive loans. Transactions are further screened to verify that the latest loan is for refinance rather than for home purchase. The Freddie Mac analysis does not track the use of funds made available from these refinances.
