Unintended Consequence of Dodd Frank Left a $1 Trillion Gap in the US Housing Market
A fundamental premise of today’s housing and mortgage markets is that there is not nearly enough supply for the demand that’s out there. While the consensus solution is to simply build more houses, one mortgage CEO explained that there’s a gap in the market that amounts to an estimated $1 trillion worth of property currently inaccessible to the vast majority of homebuyers.
John Lynch (pictured), founder and CEO of PCMA Private Client Lending, explained that a significant number of property owners at the top end of the market have spent the past decade largely excluded from the mortgage process.
Thanks to an unintended consequence of Dodd-Frank, a combination of business owners, asset-rich retirees, and other high net worth individuals have been subjected to a far more onerous mortgage process. Lynch, whose business serves these clients, has seen an older group of large property owners become extremely distrustful of the mortgage process, buying properties for cash and selling with a heavy bias towards cash offers. The upshot for Lynch is that a huge tranche of properties is sloshing around for cash at the top of the market, divorced from the mortgage process and inaccessible to mortgage-carrying homebuyers.
“There are enough homes to house everybody but there are not enough homes on the market, because of the restrained liquidity of a very large borrower class, who are not coming to market now,” Lynch said. “Some of the owners are active if they’re rich enough or have enough home equity to buy a new property all-cash. But if they don’t have enough in their existing home or a retirement account they can leverage to buy all cash, they’re not bringing that inventory to market. Now you’re getting unhealthy price appreciation because of that supply-demand dislocation.”
Lynch explained how his average client informs that outlook. The typical PCMA client averages between 59 and 60 years old, borrowing an average of $1.5 million on a 60% LTV. They’re typically long-term homeowners with great credit, but also tend to be self-employed meaning they’re disadvantaged against a W2 borrower. Many of these homeowners, Lynch explained, are moving from the ‘wealth accumulation’ to the ‘wealth preservation’ stages of their lives, meaning, for example, they may want to downsize out of their five-bedroom home to a townhome in Palm Beach next to a golf course. These are homeowners sitting on large, suburban homes, some of the most desirable properties in today’s market. Because they’ve fallen out of agency guidelines for so long, however, Lynch sees them staying in these homes out of distrust for the mortgage process.
“They’re some of the most credit-worthy borrowers in the marketplace,” Lynch said. “We’ve extricated them from the mortgage market because somehow being a business owner is riskier than being an employee with a W2. I understand that if you’re an independent pool cleaner without two nickels to rub together, but not if you’re a business owner with 350 employees who has been managing credit for 40 years. I don’t understand how those are the same two risk profiles.”
Lynch explained that this dissonance and significant gap in the market was not some malicious intent behind Dodd Frank to punish high net worth homeowners. Rather, it’s the unintended consequence of a sweeping piece of legislation. He believes the gap needs to be filled and explained that originators can play a crucial role in reintroducing these homeowners to the mortgage market in the meantime.
Lynch explained that the biggest challenge for originators to overcome is in winning back these homeowners’ trust. After a decade of struggling to get an agency loan because they tick that self-employed box, these homeowners aren’t as willing to engage. Winning their trust and securing financed deals on these properties wouldn’t just open up a new tranche of desirable housing stock, it would drive considerable volume to an originator, just as the market is skewing towards purchase.
“It’s going to take a community effort to get the clients to trust again,” Lynch said. “We need to advertise at the lender level, letting these specific clients know that it’s a great time to refinance to accelerate that trust rebuild. Real estate agents need to look at their community and see what properties haven’t turned over in more than a decade. Those could be homeowners stuck in a credit blind spot. They can then partner with a loan officer to explain the financing options to this homeowner and solve their liquidity issue. It will help grow the agent’s business, the originator’s business, and the wider community as an additional 30% to 40% of inventory finally comes to market again.”