Jumbo Mortgage Rates Report: Wall Street Buying Loans, Stratifies Risk

by: Brian.Brady on October 12, 2007 23:07:05 Leave a comment »

Jumbo mortgage rates are improving as Wall Street investors are determining risk by the amount of the loan. Ten years ago, there were conforming loans (as defined by FNMA and FHLMC limits), jumbo loans (greater than the limit but less than $650,000), super jumbo loans ($650,000-$999,999) and mega jumbo loans (over $1,000,000). Those labels may sound silly but the risk assessments, as determined by loan amount, worked well. Mega jumbo mortgages had very narrow underwriting guidelines while garden variety jumbo mortgages were subject to more lenient guidelines.

Risk assessment went by the wayside from 2002- 2007. There was no stratification in the jumbo mortgage market, up to $3,000,000. Lenders required greater equity for loans over $1,000,000 but still offered alternative documentation programs up to $3,000,000. This abandonment of risk-based pricing was a direct result of Wall Street's appetitie for yield and belief in a "perfect and steady" rise in real estate prices.

The chart below (furnished by HSH Associates) shows the premium rate assessed to jumbo mortgages:

Throughout 2006, the rate premium was less than .25%. This means that a loan of $600,000 carried a rate of 6.5% while the loan under $417,000 was at 6.25%; hardly an appropriate reward for a loan on a less liquid property. As the chart demonstrates, that all changed this summer as the risk premium widened to over .875%. This means that while the conforming loan amount might have a 6.25% rate, the jumbo mortgage rate was close to 7.125%. Wall Street stopped buying jumbo mortgages and was waiting to see which one of their competitors would "flich". The portofolio lenders (banks that held their loans instead of selling them to Wall Street) had a field day, snapping up market share for 6-8 weeks.

Wall Street flinched. In late September, they started buying jumbo mortgages. The premium edged down and the spread is narrowing today. My guess is that we'll see this premium narrow to under .5% by Christmas. Interestingly enough, this chart applies to all jumbo mortgages, super jumbo loans, and mega jumbo loans. The spread is really narrowing for loan amounts under $650,000. Today, the risk premium has narrowed to about .5% from the .875% spread for those loan amounts.

Many borrowers found that the solution I recommended this summer was to combine a $417,000 loan amount with a second mortgage. That allowed the "blended rate" to be less than the jumbo rate (with .875%, we had a lot of room). Today, that strategy isn't necessary...UNLESS...

You need a loan amount from $650,000 to $850,000. Rather than pay the higher premium for the "super jumbo" tranche, I still recommend the dual loan strategy; it just costs you a whole lot less money.

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