Real estate finance comprises three-fourths of total mortgage lending. Over the last ten years, residential real estate mortgage debt has risen at an astounding 9.875 percent per year—from $5.7 trillion in 1999 to a high water mark of $14.6 trillion at the end of 2008, the end of the first year of the “Great Recession.” According to the house price index provided by the Federal Housing and Finance Agency, between 1999 and 2009 nominal house prices rose by 61 percent, a 4.875 percent compounded rate of increase. This fact suggests that the average household was drawing out equity at a compounded rate of 5 percent per year. Therefore, the real underlying problem with the mortgage crisis may have been an unsustainable real estate finance bubble.
During the past 15 years, the decline of interest rates to historically low levels, the development and acceptance of the originate-to-distribute model of residential mortgage loan production, and the availability of a seemly inexhaustible pool of funding from the sale of mortgage-backed securities combined to cause a corresponding spike in residential housing prices. This rise in home prices opened the door to many new primary market lenders and ever more aggressive types of mortgage loan product features, which in turn ed to lower underwriting standards. Such lowered standards allowed borrowers with limited capital or lower- than-normal credit standing to enter the housing market with increasing ease.
The changes that the past few years have wrought are driving changes to real estate financing. Government and the market are contributing to the creation of a new model of residential mortgage financing, one that will most likely include more risk sharing by loan originators over the life of loans made. Real estate professionals of all kinds need a sound understanding of the specialized financing procedures used by lenders today, as well as a sense of the changes that are likely occur in future lending. The real estate market has a cyclical nature; it will flourish at times and then languish for a while. Such ups and downs are part of the normal workings of the free market system. There is no central government planning authority empowered to set limits on the number of housing units that can be built in any given market area. However, state and federal governments and the policies of various departments and agencies can influence naturally evolving market trends. The control of market demand is evident in what the United States has experienced between 2007 and the present based on the actions of the Federal Reserve Bank and U.S. Treasury Department taken to mitigate the tightening of credit markets for residential mortgage finance due to the recent financial crisis.