Low-Risk Borrowers Now Feel Crunch

By Nancy Trejos
Washington Post Staff Writer
Friday, August 10, 2007

Nicholas Schor and Liza Losada-Schor were ready and willing to spend up to $850,000 on a house in Maryland. That was a month ago, when the rate on their mortgage would have been as low as 6.25 percent.

But a sudden shift in the mortgage market means that the couple -- he's a psychiatrist, she's a clinical nurse psychotherapist -- now face a rate of more than 7 percent, reducing their buying power even though they have solid credit. That's because in the past few days, rates on loans for more than $417,000, known as jumbo loans, have shot up.

"I'm sort of surprised that even though we have excellent credit and excellent income and are putting down a 20 percent contribution that the banks aren't able to offer better rates for folks who seem to be a more reliable investment," Schor said.

Up until now, the turmoil in the mortgage market has mostly affected subprime borrowers, or those with spotty credit. However, as credit worries have spread, the gap has widened between "conforming" loans, which are eligible for purchase or guarantee by Fannie Mae and Freddie Mac, and jumbo loans, which aren't.

As of yesterday, lenders were charging an average of 7.34 percent for prime, 30-year, fixed-rate jumbo loans, according to financial publisher HSH Associates. That was up from an average of 7.09 percent last week.

It was also 0.75 percentage points more than the 6.59 percent they were charging for conforming loans. In mid-July, the difference between the two types of loans was 0.20 percentage points .

"A sizable disparity in prices has shown up in the last couple of days," said Keith Gumbinger, vice president of HSH.

The leap in rates comes even as 10-year Treasury bond yields have been falling. Typically, mortgage rates follow the Treasury.

But experts say investors are now shying away from mortgages that are not backed by Fannie Mae or Freddie Mac. Those include jumbo loans as well as others in which the terms or borrowers' credit histories don't meet the rules of those government-sponsored enterprises.

"The reason, plain and simple, is concern about the subprime problems has spilled over into non-agency backed securities," said Guy Cecala, publisher of Inside Mortgage Finance Publications.

The only way to persuade investors to buy the jumbo loans, analysts say, is to convince them that they will get a good return on their money, and the way to do that is to charge higher rates.

"Investors have simply turned a cold shoulder, at least for the moment, from buying new mortgages from lenders," Gumbinger said. "If they are interested in buying them, it is at prices and interest rates, in this case, that are more likely to ensure a profit."

Real estate agents and economists say this could have a significant effect in the Washington area because the high prices here mean many borrowers use jumbo loans. The result, they say, might be further price drops because the rise in rates will mean less buying power.

"With a rate increase from 6.75 percent to 7.5 percent, the buyer's buying power just dropped by 10 percent," said Frank Borges LLosa, a broker at FranklyRealty.com. "That $600,000 buyer will now have to look at buying a $550,000 place or paying 10 percent more per month for the same house versus last week."

That's what happened with the Schors. They recently bid $675,000 for a six-bedroom house in Olney, instead of the higher amount they originally thought they would spend. They are still hoping they can find a mortgage lender that will offer a better rate.

Jay Seville, a real estate agent with Re/Max Allegiance in Arlington, has a client who just discovered that his monthly mortgage payment might increase by $200 if he goes through with his plans to buy a Clarendon condo. This week, Seville offered $550,000 for the two-bedroom, two-bathroom condo on behalf of his client. Now, he said, his client is wondering what to do.

"His cash-flow situation has changed in the last 36 hours. It's really causing him to reconsider," Seville said.

Some real estate agents, lenders and analysts played down the impact the rising rates will have, calling it a knee-jerk reaction. "We just need to get the volatility out of the marketplace," said Larry Pratt, president and chief executive of First Savings Mortgage in McLean.

They also pointed out that it is mostly mortgage brokers, not actual banks, that are so sharply raising rates on jumbo loans. That means a borrower who goes directly to a bank might get a lower rate. Still, Cecala noted, a large chunk of mortgages originate from non-bank lenders, also known as wholesale or correspondent lenders.

Others say prime borrowers are being unfairly penalized. The bulk of delinquencies have been among subprime borrowers.

"I think this will be a short-lived phenomenon, said Greg McBride, senior financial analyst at Bankrate.com. "It has no basis in delinquencies. Delinquencies on jumbo loans are still very low, and the wrong borrowers are being punished for the sins of others."

Staff writer Michael T. Shepard contributed to this report.