Sunday, October 3, 2010

The Mobile Mortgage, a response

My sister-in-law Erin wrote a very interesting blog post about her idea for a mobile mortgage. Basically people who want to (a) own a home and (b) move a lot end up building equity much more slowly then people who stay put for 30 years. This is because when you first get a mortgage (or any loan) you pay mostly interest and only over time does more of your payment go to principal. So why not bring the loan along with you when you move?

I wrote out a response that was too big to fit in the comments box on blogger so I thought I'd put it here. (Then I accidentally deleted it so this is draft # 2.)

I really like the idea of the mobile mortgage and I think it makes a lot of sense for people who expect to move a lot. So that got me wondering why the mobile mortgage doesn't exist today. I can think of a few reasons though I'm not sure any of them are insurmountable.

The first reason is that since a mortgage is secured by a house there would be some cost and risk involved with appraising the new house to ensure that it supported the loan amount. Smaller, regional banks that hold on to their loans may not be comfortable with taking the risk on a house that is outside their normal service area. For banks that sell loans to investors (which is most of them) the appraisal shouldn't be a problem because it's no more or less likely to be accurate than the initial appraisal was. Of course, the borrower would likely have to pay for the appraisal, but they'd do that anyway in buying the new house. This would also give the bank or the loan servicer a potential veto over the borrower's new house, but if the borrower doesn't like that they can just get a new mortgage as they would have done in the status quo.

Perhaps a bigger problem is that banks in some sense don't want people to stay in a 30 year loan for 30 years. Banks have a problem with "duration matching." A bank has to raise money to lend to people and they do this mostly through deposits which are short term (that is, people frequently move money in and out). But the money the bank lends is much longer term, like a 30 year mortgage. (Actually, most loans only last about 5-7 years because people move or refinance within that time on average.) As short-term and long-term interest rates move around, the bank runs the risk that it could end up paying a higher rate on its deposits than it's earning on its loans. There are two possible solutions for the bank. One is to make the mobile mortgage's interest rate variable and tie it to a shorter term rate. However, this may be unpalatable to borrowers who could see their mortgage payment change rapidly and substantially. Another solution is to seek out investors who are looking for longer-term assets. One would expect that the mobile mortgage would last longer because people keep it even when they move. (Of course, when rates fall people may refinance out of their mobile mortgage to get a better deal so a variable rate may be necessary to ensure the longer duration.) Anyway, with so much financial innovation it shouldn't be insurmountable to structure something that works.

Still, the idea of the mobile mortgage raises even more interesting and deeper points about what it means to own a home. One reason to own a home is to "build equity" and when home prices were appreciating steadily this seemed like a great thing to do. Going forward however, it's not at all clear that the home as an investment is the best deal, compared with renting and investing the money you save in, say, the stock market. (A home mortgage is a good form of "forced savings" in that it's easy to spend the "stock-market-investment money" than it is to skip your mortgage payment. But lots of people did find that they could take out home equity loans and pay off credit cards and buy cars so it's not clear that the forced savings works anymore for mortgages.) Mainly though, I don't think people want to own a home solely as an investment. They don't want to have to negotiate with the landlord about painting the living room green. Or more substantially, they don't want someone raising the rent or just deciding to kick them out when the lease is up. And psychologically people feel more rooted and permanent and stable in a home they own. They also tend to care more about their neighborhood and community. (Although this may be an American phenomenon. In Europe people rent long-term and seem to feel perfectly rooted.)

These psychological reasons would explain the 10-year interest-only mortgage which, to me, is financially akin to renting from a bank. (Not quite because you still get to paint the living room and you can keep any appreciation in the house when you sell it, but if the house price doesn't go up you've built no equity for 10 years.)

A professor at my law school has written an interesting paper called Homeownership 2.0 that discusses ways to come up with something that isn't full ownership, but also isn't a rental or even a long-term lease. It would be interesting to see if this could be put together with a mobile mortgage and give people the best of both world between renting and owning.

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