Why Jumbo Mortgages Don't Need a Bailout

Nick Timiraos has the horrifying story of people who are using their savings to pay down their mortgage debt:

Randy Kobata, who lives in Santa Monica, Calif., says he's considering taking $70,000 out of his savings to pay down his mortgage in order to get to the conforming limit. He isn't able to refinance his adjustable-rate jumbo loan from Washington Mutual Inc., now a unit of J.P. Morgan Chase & Co., because the value of his two-bedroom home has declined by $100,000 in the past two years...
Rather than dip into savings to get a better rate, some advisers say, clients are better off holding tight. "If your home has lost 15% in two years, why pay down just to refinance?" says Craig Vogt, a mortgage broker in Brooklyn, N.Y. "It's like losing money two times."

Au contraire, it makes perfect sense to use savings to pay down mortgage debt, especially if in so doing you can get from jumbo levels to conforming levels. The personal economics of mortgages are very complicated, but in general it's silly to assume that you'll get a higher return on your savings than your interest rate on your mortgage -- and as a result, you're normally better off using your savings to pay down your mortgage than you are investing them.

The lead anecdote in Timiraos's piece is also a bit weird:

Pete Zipkin [is] the kind of affluent customer that banks once coveted. The 35-year-old technology executive -- who says he has a spotless credit record and at least 20% equity in his home -- has come up empty-handed in his search for a jumbo mortgage of more than $1 million for his recently built five-bedroom home in Alamo, Calif., near San Francisco.
Unable to find a fixed-rate mortgage when his construction loan expired last fall, Mr. Zipkin now has a variable-rate loan that adjusts monthly. The rate is currently 5%, but it can go as high as 12%. He says banks have turned him down in part because they are worried about falling home prices in California, even though price declines in Alamo, where the median home price is $1.3 million, have been less severe than in the rest of the state.
"If somebody has the income, the equity and the credit rating," they should qualify for a loan, Mr. Zipkin says.

Are you feeling sorry for Mr Zipkin yet, with his 5% loan and his custom-built million-dollar house? According to Timiraos, Zipkin is "hurting", but I don't see it: so long as short-term rates remain low, which they will do for the foreseeable future, he's fine. If and when the Fed does start raising rates, that'll be partly because the mortgage market has started functioning again.

More to the point, how is Zipkin calculating his 20% equity? I'm sure that he loves his custom-built dream home, but those things are hard to sell at the best of times. Right now, with foreclosures accounting for roughly half of all home sales, it's far from clear that the Zipkin House could be sold at all, let alone at a price above the million-plus that he's seeking as a mortgage.

And if I'm a lender, I'm going to take no comfort in the fact that price declines in Alamo "have been less severe than in the rest of the state" -- quite the opposite, in fact, since it implies that the shoe just hasn't dropped there yet. Alamo is a good hour's commute from San Francisco in rush hour: if Berkeley is outside San Francisco, and Walnut Creek is outside Berkeley, then Alamo is outside Walnut Creek -- it's exactly the kind of exurban community which seems doomed in many parts of the country, and where no house was ever worth a million dollars until very recently.

None of which is to downplay the very real tightness in the jumbo-mortgage market -- tightness which definitely makes it harder to move those million-dollar houses. But people with jumbo mortgages are the hedge-fund investors of the housing market: they're rich enough not to need the government's protection. Jumbo mortgages don't pose a major systemic risk, because default rates on them are still relatively low, in comparison to default rates on other non-conforming mortgages, and because there weren't all that many of them to begin with. So while poor Mr Zipkin might feel hard done by when the government doesn't bail him out, I'm inclined to think that there are better ways for Washington to spend money.