The long, slow squeeze continues

One of the many lingering after effects of the Greenspan term at the Fed is that huge amount of home equity that has been extracted but not yet paid back by homeowners with no intention of selling their home.

If your mortgage is more than a few years old, it no longer makes sense to refinance the extracted equity back into a new first mortgage for three reasons. First, you'd have to start back at month one on the loan amortization schedule; second, you probably won't get a lower interest rate; and third, you'll have more loan fees to pay.

Now, many homeowners who plan to stay put for awhile, especially those who have just completed major improvements on their homes, are getting squeezed every month as they service the home equity debt that seemed like found money just a couple years ago.

This was confirmed earlier today when it was learned that Americans are much less willing to take money out of their homes and spend it now that home prices are falling across the country and interest rates show no signs of coming back down.

This story($) in today's Wall Street Journal tells how short-term interest rates are cramping the style of former spendthrifts.

A cooling housing market and higher interest rates have made homeowners more reluctant to tap the equity they may have built up in their residences. The amount borrowers owe on their home-equity lines of credit has slipped in the past six months, to $561 billion at the end of March, the first such decline since 1999, according to new data from Equifax Inc. and Moody's Economy.com Inc. Although that decline was partly offset by a pickup in fixed-rate home-equity loans, total home-equity borrowing rose just 9% in the 12 months through March, well below the 21% average annual growth rate of the past five years.

"People are feeling uncertain about the value of their home and are feeling tapped out," says Doreen Woo Ho, president of Wells Fargo & Co.'s consumer-credit group.

Some homeowners have decided to "wait and see what happens to real estate," says David Rupp, Bank of America Corp.'s home-equity executive, "or they may view themselves as not needing to borrow."

During the housing boom, demand for home-equity lines of credit climbed sharply as property values rose, interest rates fell and lenders made it easy for borrowers to tap their equity for everything from home improvements to vacations. Borrowing against home equity freed up roughly $187 billion in cash per year between 2001 and 2005 that was used to pay off other debts and for new spending, according to a recent paper by former Federal Reserve Chairman Alan Greenspan and Fed economist James Kennedy.

Now, the slowdown in home-equity borrowing is leading to weaker sales in some markets for autos, building materials and electronics, says Mark Zandi, chief economist of Economy.com. The slowdown has been particularly notable in parts of the country that are suffering most from housing and mortgage corrections, including Boston, Minneapolis, Miami, Las Vegas and Washington.

The WSJ report showed this chart where the once wildly popular HELOCs (home equity lines of credit) have now gone flat as fixed-rate home equity loans have recently grown.


It's nice to see that the Wall Street Journal occasionally makes mistakes too because the $6.0 billion scale on the left is laughably low - it should be $600 billion as the story cites current levels of $561 billion in home equity lines of credit and $290 billion in home equity loans.

Combining both home equity loans and lines of credit and using a broader timescale in the chart below from the other day, it is clear to see just how popular these forms of borrowing have become in the last few years.

They were almost unheard of in the 1990s and the $187 billion average from 2001 to 2005 is very misleading - for the last three years, the average is closer to twice that level.


Speaking from personal experience, these lines of credit always seemed too good to be true. Pay only interest for ten years and then start paying it down? Yeah, right!

Back a few years ago when you could get the first six months at one percent interest and then the rate would adjust up to three or four percent, after taking into account the tax write off, it was almost pain-free debt service (and hardly noticeable when home prices were rising).

It was probably irresistible to many homeowners who at first just took advantage of the early 2000s easy money to lock in a low fixed rate loan and then found themselves subjected to the peer pressure of the two-Lexus family on one side of them and the massive home improvement project on the other.

A $20,000 balance at three percent in 2003 is a far cry from today's $100,000+ tab at closer to ten percent.

The long slow squeeze continues.