One of the primary catalysts of the Manhattan housing boom, especially in the past five years, has been low mortgage rates. They have increased affordability and caused many renters to become first time home buyers. But what is the relationship between fixed and adjustable rate mortgages and how has that impacted the housing boom? It has been said that the adjustable rate mortgages and other "exotic" loan packages tipped the scale and fueled a frenzy in home buying over the past 5 years.
This week's chart plots the difference between fixed and adjustable mortgage rates against the change in housing prices. The premise, when I set out to do this, was to see if Manhattan housing prices increased significantly after the rate differential expanded. In other words, would housing prices be influenced by an increased spread between the two rates, inferring that adjustable rates were more favorable? Of course there are a wide array of other influences in housing prices such as available inventory, the mix of apartments available, local and national economic conditions at the time, etc.
The green bars plot the difference between the fixed mortgage rate and 1-year adjustable rate mortgage as published by Freddie Mac at the end of each quarter. For example, if fixed rates were 6% and adjustable rates were 4%, the differential would be 2%. The taller the bar, the greater difference between the fixed and adjustable rates meaning greater disparity. The pink line plots the percent change in inflation-adjusted median sales price from the current quarter to the same quarter in the prior year over the past 10 years.
After the jump, Miller explains why ARMs are unfairly maligned.
Analysis and Conclusion
Well, the results are in and they don't show a clear pattern of cause and effect. From 2001 to 2004, the spread between fixed mortgages and adjustable rate mortgages was pretty consistent and remained at fairly high levels. Price appreciation accelerated in 2004 to remain above 10% through the current quarter. However, in the first 5 years of the chart, from 1996 to 2000, the spread between the rates was shrinking yet prices rose significantly, starting in 1998. It's important to note that ARMs were not nearly as popular in the first half of the decade as the second half.
Therefore, I'd have to conclude that adjustable rate mortgages were at least partially responsible for the significant price gains of the past several years. However, the gains are more likely due to the combination of other factors which include adjustable rate mortgages, not in and of themselves.
So it looks like ARMs are probably getting more bad press than they deserve, or at least in Manhattan. Perhaps that's because of the unusually low concentration of investor purchasers in this market. Investor-laden markets in other parts of the US have seen a high percentage of ARM financing, which makes them particularly vulnerable in a rising mortgage rate environment.
· The Impact of Mortgage Rate Types on Pricing [Miller Samuel]