A New Mortgage Product Balancing Equity and Affordability

 

In a presentation at a REALTOR® University Speaker Series held recently[1], Ken Fears, NAR’s Director of Housing Finance and Regional Economics, discussed his proposal for a new mortgage product that helps homeowners build up equity faster while keeping loan payments still affordable. The blended product also improves financial intermediation by providing a better match of the maturity of some investors’ short term assets and long term liabilities.

Fears’s proposed mortgage product- the Blended Rate Equity Driver (BRED) – is a blended rate product composed of the existing conventional 30-year fixed rate mortgage, the 15-year fixed rate mortgage, and the 5/1 adjustable rate mortgage.  Currently, the most common mortgage product is the 30-year fixed rate mortgage product. Although this product has the attractive features of a fixed payment and no upside risk from rising mortgage rates, it also leads to a slow buildup in equity for the borrower. Blending in the 15-year FRM enables the homeowner to build up more equity than under the pure 30 year FRM, with the 5/1 ARM component working to offset some of the increase in payment from blending in the 15-year FRM. The ultimate result is a product that remains affordable for homeowners while allowing for a faster buildup in equity. Fears calculates that on a $200,000 loan, the 30-year BRED yields about 40% more equity over five years compared to the 30-year FRM.

BRED can be customized to the buyer’s needs and risk preference. For example, a borrower who wants more payment stability can opt for a 80/20 blend of the 30-year FRM and 15-year FRM blend. Another borrower who has a higher risk tolerance but wants to build up equity faster can have more of the 5/1 ARM and 15-year FRM in the BRED blend.  Finally, a person interested in more equity than a 15-year but lower payment might prefer a 40/60 blend of 30-year FRM and 15-year FRM.

Fears noted that there are some potential issues with BRED such as the possible higher cost of origination and its seeming complexity which would require more education on the part of borrowers.

For questions or comments relating to BRED and to request the slides, please email Ken Fears at kfears@realtor.org.

monthlyREALTOR® University provides on-line education on real estate and other topics at the MBA and undergraduate levels. The REALTOR® University Speaker Series provides a venue to learn about and stimulate discussion of economic and real estate issues in support of NAR’s mission as the Voice of Real Estate.


[1] The REALTOR®  University Speaker Series on “Mortgage Design Proposal: A Better Balance Between Building Home Equity and Affordability” with Ken Fears, Director of Housing Finance and Regional Economics, NAR Research Department, was held on September 8, 2015.

 


Source: Economist Outlook

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