Bruce Norris is joined this week by Gary Thomas. Gary is the National Association of Realtors 2013 president. Gary has been in the business for over 35 years and has been the owner of Evergreen Realty in California.
Bruce asked if the duties of a president elect are very different from the duties of the president. Gary said absolutely since being president is a lot more intense and time-consuming. One usually knows in advance when they are going to be president, so Bruce wondered if it was a good idea to see what the other presidents went through before them. Gary said it is since you get to see it and see how you could do it differently and not spend as much time as the other did. Bruce also asked if he will be sitting in front of Congress and weighing in on some heavy issues by the end of the year. Gary said he already has and that he has testified several times this year, but he is sure he will again in the fall and into the end of the year.
Bruce asked Gary what topics he has been asked to discuss so far. He said he has spoken on FHA and GSE reform. Bruce recently read a 10-12 page document on the president’s desires for the housing industry. He gets the feeling at the goal is to get rid of the out-moded financing vehicle of Fannie and Freddie. Bruce asked Gary what his thoughts were on it and if it would be the final result of what we end up with and if it will be very different from what we are used to in the past. Gary said he does not think we will see a huge difference in what we will end up with in the future. He thinks what we will see could either be one of two things. One could be that Fannie Mae and Freddie Mac both stay the same as they are and get spun off into private capital with no government guarantee. The other side of it would be that the government still has a federal guarantee on them, but there is no private capital involved and it is a complete government function. Either way, he thinks we need to use what is already there and has functioned really well over decades and had a hiccup when everybody else had a hiccup. However, they have come out of it very strong.
What is interesting is that when they used the language they did in the document, you could have checked the paper the day before and read about record earnings for Fannie and Freddie. Gary said he cannot imagine the Federal government killing the goose that is laying the golden eggs right now. If you want to get paid back, it seems like the best way would be to stick with the current model and make loans like you are doing it now as well as implement some things we did in the past. When you talk about FHA, they are loaning to a very different client right now than they have in the past. Where FHA really went off the rails, and the problematic loans are in the reverse mortgage area. Had they not been as deeply into the reverse mortgage, he thinks they would have been just fine. The rest of their bulk of business is very good.
The FHA was not a big player in 2005-2007. They emerged after this, so they will take some dings from 2008-2010. After that, Bruce said he would think would be the safest book of business ever. FHA’s business after was golden and was very good with the changes they made. It has made their book of business from that point on very, very good. This has to be said for Fannie and Freddie also. FHFA has come in and made strict requirements that they adhere to, so the book of business they are building is also very good.
Bruce asked if it is too good. He remembered looking at one year in 2007 when FHA was making a very high percentage of loans to people with a 620 and under FICO score. It was about 37% of their business, and now it is 3%. It probably should not be 37%, but he doubts that it should be 3%. They do need to loosen up a little, both them and the GSEs, specifically on the FICO scores. Every time they have ever gone through this, the pendulum swings the other direction and they become ultra conservative. When they are ultra conservative, they are looking at more down payment as well as the financial viability of the borrower much closer than they did in the past. Because of this, they are requiring much higher FICO scores than what they say they will accept.
The biggest problem for our industry is overlays, where there is a stated loan program but no one to fund it. None of the overlays are exactly the same, so as a borrower you hear one then and then find out the market is very different. Gary deals with purchasers who come to him after they have dealt with one of his agents who are kind of upset by telling them it is not really a loan process anymore as much as it is an inquisition. They should not be surprised how many times they are going to ask you for the same materials over and over. It is the way it is today.
Bruce asked if this goes on after the fact as well. For example, after the loan is funded and the file is closed, is there is somebody after the fact checking up. Gary said he has not really seen this, and most of the time it is reviewed it is before the fact. This process includes the appraisal, and the low appraisal wins.
With FHA, there is one main concern. The size of the loan that is in place right now is a big deal and is way larger than it ever was in comparison with Fannie and Freddie. Before, it was a certain percentage of that loan limit, and now in some cases it is higher. It is serving a real important function because all of the people that lost homes over 3 years ago can get this type of loan. Unfortunately, it is a very sizeable loan. Bruce asked if there is talk about reverting back to those old formulas where an FHA loan balance would be very different than it is today. Gary said there is, and these are some of the thing they are talking about in considering restructuring. Obviously, FHA should not have the footprint it has today. However, it also served the exact purpose it was designed for, which was to fill in when the private market just abandoned lending whatsoever. Both the FHA and GSEs did exactly what they were designed to do.
Bruce asked what the biggest unknown is right now for the industry. Gary said it is the access to capital. He thinks the overarching issues are the restructuring of both FHA and the GSEs. The other is tax reform and what could happen to both the mortgage interest deduction as well as the property tax deduction and capital gains. These are big items, so Bruce wondered if the one in the middle is Proposition 13. Gary said no and that he is talking about restructuring the entire Federal tax code. This means what is deductible interest right now in taxes could be cut or eliminated depending on what people made. There are several stops behind it, all the way from starting out with a clean slate and not having very flat tax or any deduction for any real estate interest. From there to doing away with second home reductions to reducing the cap from $1 million down to $500,000, there are a lot of things being floated out there. We will probably see something coming out of the tax-writing committees this fall or early winter. They are very deadest on coming out with some type of proposal out of mostly the tax writing committees in the House and the Senate.
Bruce asked if these are things the National Association of Realtors gets to weigh in on and what type of effect this usually has. Gary said they have one of the strongest lobbying groups in Washington, so they can make an impression on them both. This is not only with the lobbyists in Washington D.C, but also with their grassroots in the field talking with their representatives. Gary said they have federal political coordinators who are assigned to every single congressman and senator around the country. They gave all of them talking points and asked them that during this recess they make an appointment with their representative, then sit down and go over with them what they want to see and retain. They can them impress upon them what is not only good for the industry, but also the health of the economy. If you listen today to some of the reports of some of the corporations who are making money, it is corporations who are tied to the real estate industry.
For instance, Lowes or any types of place like this are doing very well because of the real estate industry. The one segment of our industry that is kind of an extended part of it is the new construction. In most places, most certainly in California, it really hasn’t made a comeback yet. However, it is most likely on the brink of doing so. Gary agrees, and especially in Southern Orange County you are beginning to see more construction. Irvine County is also building, so you are starting to see it coming out of the ground. However, it is going slow to really prop up.
This is a big driver of other jobs. It does not just create construction jobs, but also manufacturing, storage, furniture sales, and other things. This is a big segment of the California economy that has been missing for a long time. There is a ripple effect all through the economy when that engine is really running.
Bruce asked if we have figured out yet what a qualified residential mortgage is yet. Gary said hopefully it is the same as a QM (qualified mortgage). Each one of the regulators has to weigh in, and they are doing this right now. If you read the tea leaves at this moment, it looks like that is the direction they are going. This means they are not going to have any down payment requirements, which would really be good. In the beginning, they were recommending a minimum 20% down to qualify. Shelia Bair spoke on this and said that of course if you put 20% down, you have the skin in the game and are much more likely to make your payments. When you look at a VA loan chart history as far as performance with nothing down, it is almost equivalent to Fannie and Freddie’s 20% down program.
Gary said the argument they have always given is that the quality of the loan is really from the underwriting of the borrower. If it is underwritten properly, then the quality of the loan is much higher. You can have skin in the game, but you could also have skin in the game and not have the ability to repay. You have a buffer here, but why make a loan with a buffer? What you want to do is make a loan that is going to be fully repaid. You can also create a buffer pretty quickly when year-over-year California has gone up 30%. Everybody as a buffer; and as a matter of fact CAR just reported that the year-over-year price increase in California is up 28%. This was a record when you think about all the years we have had. This means that somebody who just got in would be happy. What is interesting is that it seems to make sense, but it does not pan out that way. Interest rates are going up, and there is talk about where everybody is going to run to the sidelines and not be a buyer.
The truth is exactly the opposite happens, and people get off the fence. If they were waiting to see a 2% interest rate, they are now saying they do not want to get a 5% mortgage rate. Usually when interest rates start picking up, people who are on the fence get off and go ahead and buy. The other thing to look at is if you look at it historically, even with the increase in interest rates they are still historically low. Gary said he started in the business in the 1970s, so somewhere in the mid-70s they were at 7 ½. By the time it got around to 1981, Bruce remembered qualifying for a 17 ½% loan. When somebody starts complaining about a 4 ½% loan, he really has to laugh. Gary remembers when we finally got them down to 10%, they thought they died and went to Heaven the rates were so good. Bruce remembers lots of experienced people saying they would never see single digits again. He is sure everybody feels that from the experiences this last time that you will never see double digits again.
The last year there was a big topic of debate, there was a short sale debt forgiveness. This was approved for the U.S, so Bruce wondered if it was ever approved by California. Gary said it was not and that Legislature tried to tie it to another bill. Very rarely will they take one issue and let it stand on its own. Sometimes you have to swallow hard to accept the one they attached it to, and that is part of the problem now. Gary said it is not something they would normally like to support, but since it has that on it they now how important it is. Gary said if you really think about it, this is really something that should be there all the time. It should not just be during this particular period since people end up in bad situations. If they go through a short sale, they are hammered even more if it is not in place. It really takes them out of financial recuperation for a very long time. If you have an IRS debt lien against you without having a lot of assets, then you are probably not a buyer for a long time.
Bruce asked if this comes up again at the end of the year for both the Federal and State, to which Gary said it does. He does not know what the likelihood is at this point of having it extended again. He would like to see it made permanent, and this is probably the tact they will take. Right now, they have to cut it straight on the others. At the same time, they want to try to slip it into something that will be approved.
The number one frustration for realtors has been the multiple offers they have seen in much of the country and a lot of cash buyers making it very difficult for normal buyers to purchase. The shortage of inventory has also been very frustrating as well. There has always been talk about shadow inventory, and over the years they have bent over backwards to help people who were upside down. However, they also did bulk sales of REOs and bulk note sales for FHA and other large companies. There would have been inventory that came to the market in that way, and those just never happened. Gary said from his understanding, they are no longer going to do the bulk sales. You will most likely not see these again since they really do not make sense in the market we have now. The REO inventory is really not going to affect prices or cause more foreclosures.
Bruce asked Gary when he says hedge buyers if it is predominantly hedge funds or if there was an amazing amount of cash from private parties. Gary said there was an amazing amount from private parties, including a lot of overseas cash and investor cash. A lot of people were sitting around with cash who felt that the prices were so good that it was really time to jump in and take advantage of the market.
Bruce asked where the National Association of Realtors lands on immigration reform. Gary said he would like to see it because he thinks some of the immigration reform would enhance purchasers and make them viable to buy homes. From that standpoint they would agree with it. They normally do not get into things that are not real estate related unless there is a benefit to it. That would be the only reason they would weigh into it at all.
As far as inventory levels in California go, they certainly changed from REO dominant to short sale dominant, and now they are equity-seller dominant. This is a trend that will likely continue until both of the other sides become a very normal percentage. If you look at Orange County, for example, they went from a very high inventory to a three week inventory. Now they are up to a six week inventory, and it is gradually climbing and will level off somewhere around 2-3 months of inventory. That is still on the relatively low side because a balanced inventory is anywhere from 4-6 months. What is interesting is that once you become an equity seller, you will become a buyer the second it closes. It is much better for the economy if an equity seller who then turns around and buys, whether they purchased up or down, because it still stimulates the economy.
The though is that with the people who hung in there and are now emerging with equity are going to be so excited to get out. If anybody has proven they want to own a home, it will be the person who has made payments for six years on an upside-down residence. He cannot imagine they are going to sell the house to be a renter after all that. All the surveys that have been done by the industries still show that the majority of Americans still value homeownership. Bruce said it does not just have to do with profit, which he knows since he pays attention to trends. He wrote a report about California losing half its value in 2006, and he did not sell his residence.
This came from a phone call he made to a guy who had a real nice home for rent, and he was really contemplating selling his residence at the time that was worth $1.2 million and went down to $600 grand. It was a $600 grand decision, and he knew it in advance. The guy asked Bruce if he had a pet. He said he worked really hard to have someone not ask him a question like that, and that is why he owned the house. It was worth $600 grand to say that no one gets to ask him if he has a pet. People own homes because they get to call the shots inside of their yard, and that is the way it is supposed to be.