Recent years have shown that interest rates play a far greater role in the municipal housing sector than does the strength of the economy, and such is the case in 2014, with the low-interest-rate environment likely to cap bond issuance despite decreasing unemployment and slightly increasing mortgage rates.
Standard & Poor’s Ratings Services predicts that the 30-year fixed mortgage rate will average 4.6% and possibly reach 5.4%, but that even a rate in the high end of this range would result in diminished mortgage revenue bond (MRB) production compared with past years.
The U.S. federal government poses more headwinds for municipal housing issuers than do real estate markets although the thawing politics in Washington, D.C., appear to foster more stability than before. Tax reform, which gained some traction in early 2013, didn’t occur last year and may not progress in 2014. Budget cutbacks previously scheduled under sequestration could be reduced under the Ryan-Murray budget deal, which restores $65 billion in sequestration cuts over 2014 and 2015. Housing finance reform calls into question the federal government’s longstanding role in promoting housing affordability, but proposals for changing or eliminating Fannie Mae and Freddie Mac remain on hold. Despite a slightly more solid federal appropriation commitment to housing than under sequestration, municipal issuers with federal guarantees should fare better than those reliant on federal appropriations.
Finally, Standard & Poor’s will implement revised criteria for unenhanced multifamily projects, federally subsidized projects, privatized military housing projects, and bonds backed by multifamily loan pools. The proposed criteria would affect no more than 450 rated issues, covering 160 discrete projects or programs. We anticipate that once applied, the revised criteria could result in our raising 5% of the issue ratings and lowering 10%.
Standard & Poor’s baseline projection for the average unemployment rate is 6.9% in 2014 compared with 7.5% in 2013 and 8.1% in 2012. The increased income from employment translates to 2 million additional households, for a total of 123 million. Standard & Poor’s projects that the number of single-family housing starts will reach 810,000 in 2014 compared with 620,000 in 2013. Multifamily housing will likely grow at a similar pace, to 350,000 units in 2014 from 290,000 in 2013. We anticipate that these factors will reduce delinquencies in single-family loans and boost occupancy in multifamily properties.
The municipal housing industry has always led a dual existence with regard to interest rates: As capital market borrowers they want to issue bonds with the lowest yield, but as mortgage financiers they need a sufficiently high loan rate to support their bonds. Unlike other tax-exempt entities, housing finance agencies (HFAs) and issuers of municipal housing bonds compete with the private sector to serve individuals. In the case of HFAs, the customers are typically low- to moderate-income first-time homebuyers, for whom HFAs can provide affordable mortgage rates and down payment assistance.
The decline in mortgage rates has made the MRB model less viable. Bond rates can only go so low, so even though HFAs can issue debt at lower rates than they could 10 years ago, mortgage rates from lenders that are not tax-exempt are not much different from rates on loans financed through the municipal bond market. Thus, the difference between the rates on the bonds and the mortgages that would support them is often too thin to allow for a bond-financed loan.
To read our full report, visit our U.S. public finance housing microsite.