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Savvy Borrowers Build Stability Through Refinancing

Chief Economist Frank E. Nothaft

One obvious benefit of a mortgage refinance is that it offers a borrower the opportunity to strengthen their fiscal house. The overwhelming majority of homeowners who refinanced in the closing months of 2011 did exactly that.

First some background. For months, fixed-rate mortgages have hovered at or near 60-year lows. In December, the 30-year fixed-rate mortgage averaged 3.96 percent and the 15-year averaged 3.25 percent. Rates in 2012 have dipped even lower at times.

In this economic environment, it's not surprising that large numbers of homeowners are refinancing to lock in interest savings. From 2009 to 2011, Freddie Mac refinanced more than 4.3 million mortgages totaling $930 billion. In fact, refinances made up almost 80 percent of our business during that period, and have continued to be our bread and butter this year.

Freddie Mac's latest refinance analysis found that in the fourth quarter of 2011, more than eight in 10 homeowners who refinanced their first-lien home mortgage either maintained about the same loan amount or lowered their principal balance by paying in additional money at the closing table. Of these borrowers, 37 percent maintained roughly the same loan amount, and 49 percent of refinancing homeowners reduced their principal balance. This latter percentage reflecting "cash-in" borrowers was the highest in the 26-year history of our analysis.

The Cash-Out Share of Refinancings Remains
Historically Low

The Cash-Out Share of Refinancings Remains Historically Low

During the last quarter, a typical borrower who refinanced a 30-year fixed-rate mortgage reduced their interest rate by about 1.4 percentage points. On a $200,000 loan, that translates into interest-rate savings of $2,700 during the next 12 months.

Conversely, "cash-out" borrowers – those who increased their loan balance by at least five percent – represented 15 percent of all refinance loans, the lowest percentage since Freddie Mac began to track this statistic 26 years ago. The average cash-out share between 1985 and 2010 was 46 percent.

The Inflation-Adjusted Cash-Out Volume in the Fourth Quarter of 2011 was the Lowest in 16 Years

The Inflation-Adjusted Cash-Out Volume in the Fourth Quarter of 2011 was the Lowest in 16 Years

A second Freddie Mac report found that refinancing borrowers overwhelmingly preferred fixed-rate loans, regardless of whether their original loan was an adjustable-rate mortgage (ARM) or a fixed-rate.

Fixed-rate loans accounted for more than 95 percent of all refinance activity in the fourth quarter of 2011. And an increasing share of refinancing borrowers chose to shorten their loan terms. Of borrowers who paid off a 30-year fixed-rate loan, 43 percent chose a 15- or 20-year loan, the highest such share since the first quarter of 2003.

Fifty-eight percent of borrowers who had a hybrid ARM transitioned to a fixed-rate loan during the fourth quarter, while the remaining 42 percent chose to refinance into the same type of product.

Borrowers motivated to refinance by low fixed rates could obtain even lower rates by shortening their term. Compared to a 30-year fixed-rate mortgage, during the fourth quarter the interest rate on a 15-year fixed was about 0.7 percentage points lower.

At this point in the housing crisis, many homeowners have already refinanced their mortgages and locked in low rates. But for qualified borrowers who have not yet taken that step and want to shore up their financial foundations, a refinance might make good sense – especially one that makes homeownership more affordable and sustainable in these challenging times.

* Frank Nothaft left his position with Freddie Mac in January 2015


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