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  • Jonathan Poyer

Don't Be Alarmed By Adjustable Rates

The folks at First Trust have a nice post about the touchiness regarding mortgage resets and the prevalence of adjustable rate mortgages still in existence in their piece titled "Mortgage Rate Alarmism Is Off the Mark". There are fears that with inflation at record highs and a recession looming that we will see extra stress on the economy as the result of adjustable rate mortgages and also an increase in rates overall.

I like how the FT folks focus on both sides of the ledger and consider that there are two sides to consider when things change and adjust. But be that as it may.

We want to focus here on the strength of U.S. homeowners and also take a look at the adjustable rate sector of borrowers.

First things first: the average 30-year fixed mortgage rate in the U.S. is now around 5.5%. That is about double the rate from a year ago when we were seeing rates around 2.8% last July:

Historically speaking, these rates are not awful but a doubling in under a year has the potential to cause a lot of damage especially if a recession is here or imminent. We are definitely seemingly trending towards a return to the mean although that is coming after years of incredibly low rates.

But let's take a quick look at some bigger picture numbers for our consideration. The Federal Reserve says that there is about $12T of mortgage debt outstanding. Of all that debt, about 2% is are adjustable rate mortgages. In 2006, about 50% of the total was adjustable.

No matter the reason, homeowners are historically in very good shape as it relates to their household debt and the mortgage debt service payments. The U.S. has the lowest mortgage rate on outstanding debt in 43 years. The average rate of interest on housing debt is 3.3%. The Mortgage Debt Service Payments as a Percent of Disposable Personal Income is under 4%.

The last feature to highlight is that U.S. homeowners own the highest percentage of their homes in over 20 years:

In some ways, it seems that the mortgage is now the asset and the physical home is the liability on a personal balance sheet. Anecdotally that seems the case considering how reticent people are to sell their homes knowing that they are locked in for 30 years at a rate they will probably never see again even if forced to or choosing to move.

While the housing market is so large that even small percentages end up being large numbers, it still seems that homeowners are in great positions. Furthermore, we are looking at completely different adjustable market from the 2008 GFC all the while homeowner equity is at all time highs. While the technical side of investing in these sectors can be a challenge, the fundamentals sure seem attractive.

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