This month's market update looks at how the burden of student loans may not affect the housing market, how lenders are waiting for new mortgage rules, and questions if lower gas prices can help housing's recovery.
Student Debt May Not Be to Blame for Housing’s Woes
The conventional wisdom of recent years regarding student loan debt and its kiss of death on various economic drivers—housing in particular—has found a challenger. In remarks delivered at the annual meeting of the National Association for Business Economics, U.S. Treasury Deputy Secretary Sarah Bloom Raskin pointed to higher education’s wealth-building potential and emphasized that student loans may not be driving people away from housing.
While acknowledging that the United States has significant population segments struggling to meet their student debt obligations, Raskin emphasized, “unlike many other forms of credit, like credit cards, student loans fund an investment, rather than consumption.”
And that investment generally pays off. Raskin pointed to data from the Brookings Institution showing that a four-year college degree typically leads to an increase of nearly $600,000 in lifetime earnings compared to a high school diploma alone. And that increased wealth can go on to fund other investments, such as housing.
As for whether monthly student loan bills are keeping people out of the market, Raskin said that there are still many blind spots in the data. However, in comparing nominal student debt levels in 2007 to 2012, she found that the average 2012 borrower pays $800 more per year than they would if they had borrowed at the 2007 level. Were that amount available to go toward a larger mortgage, it would be able to purchase a mortgage $13,300 larger with a 30-year loan at 4.5 percent.
Where down payments are concerned, given that the typical 10 percent down payment paid on a median home is $16,300, the additional $800 going to student debt per year would account for only five percent of the down payment needed.
“So, the effect of a current student loan on the decision to buy a house is—or is not—significant, depending on the borrower’s other financial resources or how short the borrower is from having enough for a complete down payment,” she said.
The bigger risk for would-be buyers, Raskin argues, is the damage done to credit scores when student loans become delinquent or enter default. “Delinquencies for young adults are particularly relevant, since this is the population of potential first-time homeowners,” she said. “This delinquency constitutes a negative credit event, which would limit access to credit, making it harder for the potential homeowner to get a mortgage.”
Given the integrity and stability the student loan market has shown, Raskin doesn’t anticipate a “student loan meltdown” any time soon. However, she did emphasize the need for policy choices to help counteract the “troubling trend in delinquent or defaulted student loan balances,” as well as the need for a better understanding of how borrowers perceive their student debt burden—views that help shape what future economic choices they will make. “Is it a function of their total amount owed and the strength of entry-level jobs? Or is it a function of monthly debt payments?”
As Mortgage Rules Loosen, Some Bankers Hang Back
Fannie Mae and Freddie Mac’s recent moves to expand credit by easing mortgage lending standards have been received with mixed reactions by lenders, many of whom are still stinging from the housing market’s collapse.
Under the GSEs’ new guidelines, both Fannie and Freddie will offer 97 percent loan-to-value mortgage products, which will be limited to first-time buyers at Fannie Mae but available to both first-time and repeat buyers at Freddie Mac. The new products are expected to have particular appeal for Millennial buyers, many of whom are expected to make the jump into homeownership this year. On a December call with reporters, Federal Housing Finance Agency officials emphasized “there is a group of Millennials that are waiting out there to jump into the market that do have the ability to repay.”
Borrowers with lower credit scores are also expected to see greater leniency as banks lift requirements put into place after the mortgage market crisis. In 2014, only 2 percent of new mortgages went to borrowers with credit scores between 620 and 639, according to CoreLogic data. However, the number is expected to grow as banks ease standards in response to the new guidelines. (A score of 620 is the minimum required by Fannie and Freddie.) Wells Fargo has already eased its credit score requirements in response to the GSEs’ actions.
According to The Wall Street Journal, David Stevens, president of the Mortgage Bankers Associations, stated that in response to the new guidelines, he had “been told with absolute confidence that some lenders are lifting almost all of their overlays.”
However, for some lenders, the memory of banks being forced to repurchase billions of dollars in mortgage loans that Fannie and Freddie said failed to meet the GSEs’ standards, is still a haunting specter. As a result, not all lenders share as much enthusiasm for easing credit requirements.
“Unless we are convinced that the rules are going to be permanent and there is not going to be a look back or a reach back in future times … we are simply going to stay on the sidelines in the concerns of both compliance risks and other uncertainties,” said Richard Davis, U.S. Bank’s Chief Executive, on an earnings call.
Bank of America CEO Brian Moynihan expressed similar hesitation at an investor conference in November. “You won’t see us start to expand our criteria much past what we’ve done.”
Can Cheap Gas Help Fuel Housing?
The lowered gas prices of late have left households with thicker wallets, but could falling fuel costs do the same for the housing industry as well? Molly Boesel at CoreLogic contends that it may.
While fuel costs can impact homeowners through their heating bills, Boesel points to a second connection between gas prices and housing demand: commuting costs. In analyzing the number of vehicle miles traveled (VMA) per capita between 1991 and August 2014, Boesel found that when gas prices were less than $2 per gallon, homeowners were willing to move further from urban centers and purchase larger, more costly homes. That trend is evidenced in a continual rise in VMA per capita from 1991 through June 2005. Then, as gas prices moved upward, VMA started shrinking, with the exception of mid-2008 through mid-2010 when the financial crisis was putting severe strain on household budgets.
Boesel also demonstrates a relationship between VMA and homeownership rates, showing both growing between 1994 and 2004, gaining 12 percent and 5 percent, respectively. Then from 2005 to 2014, both curved downward until reaching 1994 levels last year.
“If consumers believe the recent drop in gas prices is longstanding, could it incent buyers to again move outside the urban core?” Boesel asks. To find the answer, she points to the 2012 paper, “How High Gas Prices Triggered the Housing Crisis: Theory and Empirical Evidence,” in which authors Sexton, Wu, and Zilberman found that low gas prices propelled mortgage borrowers with the lowest incomes into the nether reaches of the suburbs—which in turn left them particularly vulnerable to the energy price spikes that hit consumers in 2008.
However, whether or not a similar scenario will play out as gas prices shrink will depend on several factors, she says, not the least of which being access to credit. “Sprawl was an environment of easy credit and low interest rates,” Boesel says. “While interest rates today are low, credit is tighter than it was in the mid-2000s, making the decision of whether or not to move far from the urban core a very different calculation.” PB