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The US just announced that they are working on a plan to introduce 50-year mortgages. I don't know what this plan entails, but my first reaction to the headline was: “Yeah, this is a bad idea.” But then I thought to myself, why is a 50-year amortization period too long? And is there any magic to 25- and 30-year mortgages?
At the most basic level, you could think of it this way: the average life expectancy of both sexes in America is currently 78.4 years. That means the average American would need to buy a home — with a 50-year mortgage — at 28.4 years old in order to fully pay it off by the time they die. At that point, why not rent?
A more rigorous analysis of amortization periods would likely involve a myriad of trade-offs related to housing affordability, homeownership rates, asset-price stability, household debt, overall financial risk, and other factors. But the primary feature of a long-ass mortgage is that it's alleged to make homeownership more attainable.
The obvious benefit of a 50-year mortgage is that it lowers a borrower’s monthly payment. For example, an $800,000 mortgage at 6% would create the following payments:
25-year amortization: $5,154 per month
30-year amortization: $4,796 per month
50-year amortization: $4,211 per month
But it's important to keep in mind that this is a synthetic affordability solution. It does not address fundamental constraints such as land use, zoning, construction costs, and the overall supply of new housing. Here's an excerpt from a speech that Carolyn Rogers, Senior Deputy Governor of the Bank of Canada, delivered last year:
"...we need to resist the temptation to try to solve the housing affordability challenge by tinkering too much with the mortgage market... leaning too much on measures that reduce the short-term cost of financing could have long-term impacts on the financial health of households, the mortgage market and the economy."
The corollary to these lower monthly payments is that if you can afford a monthly payment of $5,154, you now have the option of taking out a bigger mortgage with a longer amortization period. With a 50-year amortization, that same monthly payment could support a $979,173 mortgage.
But what increased leverage does is drive up home prices even further, in the same way that lowering interest rates creates upward pressure. Imagine that mortgage rates drop from 6% to 3%. This same $5,154 monthly payment would now carry a $1.6 million mortgage with a 50-year amortization period.
I'm not an economist and, from what I can tell, there's no perfect amortization period. But there does appear to be a Goldilocks zone that balances a number of the trade-offs, and it is somewhere between 20-30 years. In fact, as recently as 2008, Canada offered government-backed 40-year mortgages. But then a consensus emerged that they were "really not in the best interest of Canadians."
I know that lots of people would love to own a $2 million home. But economic history has shown us that 50-year mortgages are likely to raise home prices for everyone, slow equity build-up for owners, and increase overall financial risk in the system. As Howard Marks once wrote in one of his memos, “There’s no free lunch in economics."
Cover photo by Kimson Doan on Unsplash
Here's an interesting table via the Globe and Mail:
As of January of this year, residential real estate loans in Canada totalled approximately $2.07 trillion. On top of this there's another $350 billion in home equity lines of credit. This brings total loans secured by residential real estate in this country to about $2.42 trillion.
What this chart really shows, though, is how concentrated the mortgage market is. The "big six" banks make up about 74% of the market. If you include Desjardins, the total increases to 80%. That's pretty much the market.
This recent WSJ article, which is largely about single-family home landlords in the United States, has some interesting charts about mortgaged homes. The following chart shows the percentage of US homes that are worth less than their debt (i.e. they're underwater). Following the financial crisis, the figure was about a quarter of all mortgaged US homes, and it stayed that way until almost 2012. This percentage surprised me.
The other chart that I'd like to share today shows the percentage of US mortgages in forbearance (i.e. people deferring payments). Not surprisingly, the percentage really increased in April, peaked in early summer, and has since started to seemingly decline. I say seemingly because who knows what this fall/winter will bring. As of September 6, the number was about 3.5 million home loans (or about 7.01%).
The US just announced that they are working on a plan to introduce 50-year mortgages. I don't know what this plan entails, but my first reaction to the headline was: “Yeah, this is a bad idea.” But then I thought to myself, why is a 50-year amortization period too long? And is there any magic to 25- and 30-year mortgages?
At the most basic level, you could think of it this way: the average life expectancy of both sexes in America is currently 78.4 years. That means the average American would need to buy a home — with a 50-year mortgage — at 28.4 years old in order to fully pay it off by the time they die. At that point, why not rent?
A more rigorous analysis of amortization periods would likely involve a myriad of trade-offs related to housing affordability, homeownership rates, asset-price stability, household debt, overall financial risk, and other factors. But the primary feature of a long-ass mortgage is that it's alleged to make homeownership more attainable.
The obvious benefit of a 50-year mortgage is that it lowers a borrower’s monthly payment. For example, an $800,000 mortgage at 6% would create the following payments:
25-year amortization: $5,154 per month
30-year amortization: $4,796 per month
50-year amortization: $4,211 per month
But it's important to keep in mind that this is a synthetic affordability solution. It does not address fundamental constraints such as land use, zoning, construction costs, and the overall supply of new housing. Here's an excerpt from a speech that Carolyn Rogers, Senior Deputy Governor of the Bank of Canada, delivered last year:
"...we need to resist the temptation to try to solve the housing affordability challenge by tinkering too much with the mortgage market... leaning too much on measures that reduce the short-term cost of financing could have long-term impacts on the financial health of households, the mortgage market and the economy."
The corollary to these lower monthly payments is that if you can afford a monthly payment of $5,154, you now have the option of taking out a bigger mortgage with a longer amortization period. With a 50-year amortization, that same monthly payment could support a $979,173 mortgage.
But what increased leverage does is drive up home prices even further, in the same way that lowering interest rates creates upward pressure. Imagine that mortgage rates drop from 6% to 3%. This same $5,154 monthly payment would now carry a $1.6 million mortgage with a 50-year amortization period.
I'm not an economist and, from what I can tell, there's no perfect amortization period. But there does appear to be a Goldilocks zone that balances a number of the trade-offs, and it is somewhere between 20-30 years. In fact, as recently as 2008, Canada offered government-backed 40-year mortgages. But then a consensus emerged that they were "really not in the best interest of Canadians."
I know that lots of people would love to own a $2 million home. But economic history has shown us that 50-year mortgages are likely to raise home prices for everyone, slow equity build-up for owners, and increase overall financial risk in the system. As Howard Marks once wrote in one of his memos, “There’s no free lunch in economics."
Cover photo by Kimson Doan on Unsplash
Here's an interesting table via the Globe and Mail:
As of January of this year, residential real estate loans in Canada totalled approximately $2.07 trillion. On top of this there's another $350 billion in home equity lines of credit. This brings total loans secured by residential real estate in this country to about $2.42 trillion.
What this chart really shows, though, is how concentrated the mortgage market is. The "big six" banks make up about 74% of the market. If you include Desjardins, the total increases to 80%. That's pretty much the market.
This recent WSJ article, which is largely about single-family home landlords in the United States, has some interesting charts about mortgaged homes. The following chart shows the percentage of US homes that are worth less than their debt (i.e. they're underwater). Following the financial crisis, the figure was about a quarter of all mortgaged US homes, and it stayed that way until almost 2012. This percentage surprised me.
The other chart that I'd like to share today shows the percentage of US mortgages in forbearance (i.e. people deferring payments). Not surprisingly, the percentage really increased in April, peaked in early summer, and has since started to seemingly decline. I say seemingly because who knows what this fall/winter will bring. As of September 6, the number was about 3.5 million home loans (or about 7.01%).
The point of the WSJ article is that there are a segment of people who are house-rich, but cash-poor. They have equity that they have built up, but maybe not a lot of cash to weather a storm. That could force some to sell. And it could be a boon for the rental-home landlords, who have been, in many cases, betting on the the suburban rental market since the last recession.
The point of the WSJ article is that there are a segment of people who are house-rich, but cash-poor. They have equity that they have built up, but maybe not a lot of cash to weather a storm. That could force some to sell. And it could be a boon for the rental-home landlords, who have been, in many cases, betting on the the suburban rental market since the last recession.
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