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Some lenders tighten rules to curb excess speculation

One of the key players in the home-mortgage market quietly has signaled that it believes real-estate speculation in some parts of the country is approaching worrisome levels.

PMI Mortgage Insurance told its network of lenders nationwide that it will no longer insure new loans made to borrowers who already have more than four mortgages outstanding or who represent more than $350,000 worth of "risk exposure" to the company.

A second large underwriter, MGIC Mortgage Insurance, confirmed that it, too, is carefully monitoring real-estate speculation in hot housing markets and has serious concerns about certain interest-only mortgages that investors are using to buy multiple houses or condos.

Both companies' comments came in the wake of a new study that found that nearly one out of four homes bought in the U.S. in 2004 were for investment, not for owners to live in. Thirteen percent of all purchases were vacation homes, according to the National Association of Realtors.

Mortgage insurers, who underwrite loans with low down payments, are highly vulnerable to defaults by speculators who find themselves with negative cash flows on multiple houses. Mortgage insurers generally cover the first 25 percent of a lender's losses on a home loan that goes belly-up, but in some cases they cover even more.

"We're seeing an increase in investor loans," said PMI spokeswoman Beth Haiken.

From a risk-management standpoint, Haiken said, the company decided to tighten its guidelines for borrowers with home-loan debt on multiple properties or who present high potential loss exposure.

MGIC's vice president for credit policy, David Greco, said the company is "watching a number of markets closely" for signs of excess speculation, such as individual investors buying houses or condos to flip for quick profits.

The problem, say insurers and others in the mortgage industry, is that when appreciation rates decline in the hottest markets, speculators are likely to be stuck with properties they can't sell at the prices they need. They are then likely to default on those mortgages.

Hot areas cool down

For instance, Las Vegas saw a heady 36.2 percent average gain in home prices during the past calendar year. Yet prices in the fourth quarter gained just 6.7 percent on an annualized basis, according to a new survey by the Office of Federal Housing Enterprise Oversight.

In San Diego, prices in the fourth quarter jumped by an annualized 8.96 percent, 24.4 percent rate for the year. In metropolitan Washington, D.C., annualized price gains slowed to 9.8 percent from 21 percent. In previously booming Boston, home price appreciation in the fourth quarter dropped to just 4.48 percent on an annualized basis.

Haiken said certain types of mortgage financing plans commonly used by investors can worsen the problem. Interest-only adjustable-rate mortgages with two- and three-year initial periods of low monthly payments followed by sharply increased costs can force investors to sell on disadvantageous terms, when appreciation rates are on the decline.

"We are approaching interest-only loans very carefully," said Haiken, particularly when these are the types of mortgages small-scale investors are using to buy multiple houses or condos for speculation in hot markets that may have hit their cyclical peaks.

Watching frothy markets

Tops on the list are Boston and San Jose, Calif., both of which have better than a 50 percent chance of seeing home price reversals in the next two years, according to PMI. They are followed by San Francisco (48 percent chance), Providence, R.I. (40 percent), metropolitan New York and Los Angeles (36 percent).

Metropolitan Washington D.C., which has had strong employment and income growth along with rapid home price escalation, is rated an "average" risk by PMI, with just a 15 percent chance of property-value declines during the coming 24 months.

The takeaway here: Before you start playing Monopoly with real houses and condos, give serious thought about whether you might be buying into the top end of the current boom and may not reap the quick gains you want or need.