284: How Fannie Mae & Freddie Mac Impact the Housing Market

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Thank you for joining us today. And as you are hearing this, I recorded it about two weeks in advance. So understand that because I am on a European cruise. As you hear this now, I've got Adam here with me to discuss a couple of very important things that could have some wide ranging effects on all of us as investors. Adam, welcome back.

Thanks. Good to be back. And for all of you who are hearing this now, two weeks ago and now I am not on a European.

Cruise.

But maybe you should be. Okay. So Adam, we talked a long time ago at Meet the Masters in maybe 2011ish about the possibility of Fannie Mae going away. And this has huge impact to any owner or buyer of real estate and all sorts of ancillary industries. I mean, the impact is profound. If this ever happens. Now, we don't know that it will happen. We don't know what will happen. Obviously nobody knows for sure, but there's talk about ending the conservatorship. We talked about that recently on an episode. Various forms of privatization. You know, who knows? One of the beautiful things about real estate in America is it has essentially been subsidized by the government since the Great Depression over seven decades ago. So there could be some pretty big changes. By the way, it's almost 2020. I should be saying almost. Well, I don't know. It depends when during the Great Depression you're talking about. But I should say eight or nine decades ago.

It's almost a little while.

Yeah, it has been a little while. But what do you take from the whole Fannie Mae discussion? What are your thoughts?

I think we need to look back in history like you were discussing. And I pulled up, I went to the census website because it's just a phenomenal place for stats. And I was looking at the time before Fannie and Freddie. And if we look at that, the average home ownership rate in 1900 was only 46% nationwide average. And if our homeownership rate, if Annie and Freddie go away and it starts trending back in that direction that's going to have huge implications for the US Housing market.

Yeah. And so give that percentage number again.

Well, in 2000, it was 66.2, but back in 1900, it was only 46.5%.

Okay, so a lot more renters back then.

Yes.

I sort of question, though, how accurate the statistics were. That was an awfully long time ago.

Well, I mean, even if you look at. If you bump it up to 1950, it was still only 55%.

Right. And by the way, that is the number it should be. According to Jason Hartman, I think that's where the homeownership should be. I've said that for many years that the homeownership rate is too high. Here's why some people in my profession don't like me. Because it's nonsensical that we need a high homeownership rate. That is a false idea. It just isn't a good premise with which to operate. There are these sort of simplistic notions that, oh, it's good for society to have this, you know, as George Bush called it, the ownership society. Right. But it's simply not true. The homeowner rate is too high and it should go down. Homeownership creates a lot of. I'll call it stuckness, meaning that people are stuck. The economy becomes paralyzed, it becomes immobile, People can't move easily to where the jobs are. This is not new. You've been hearing me say this for years. The homeownership rate really should go down. But if it does, that means the rental market is larger. You know, at the peak homeownership rate, it was about 69%, I believe. And then we had the Great Recession, then it declined. And right now, I think it's hovering somewhere around 62%. I could be wrong about that. But it's close to that number. Right. So if Fannie Mae goes away. Now, the stated goal of Fannie Mae is to promote homeownership. So it creates this false market with artificially cheap financing that increases homeownership and ultimately reduces rents because it puts people into the ownership pool and takes them out of the renter pool. And maybe they would be much better off in the renter pool. Right?

Yeah. And especially when you were talking about the home ownership. And if it goes down, how it's going to impact the economy, I look at, and the stuckness, it's also going to impact your other markets. Because if you think about, like, all the trips that homeowners make to Home Depot just to update Their lighting in their bathroom or the ceiling fans that they want, they. Those are just the little impulse buys kind of for the house. That's going to go down as well, right?

That is true. Homeownership costs a lot more than you think it does. It's just dramatically more expensive than anybody thinks. But you are absolutely right. It has a huge ripple effect on the broader economy. But I say that if the homeownership rate was down, you know, nobody says compared to what. Yes, when people buy a home, they certainly spend more money. They go out and buy new appliances, they buy new paint, they buy all sorts of stuff. They spend more money than when they rent. But say they didn't own and say they rented and they were perfectly happy renting. As we see all of these baby boomers renting now, you know, getting out of their big family homes, empty nesters, and they're just renting and they seem perfectly happy to be renters. I think that's a fine thing. You know, there's nothing wrong with that at all. They'll spend their money somewhere else. It's not like they won't spend money.

I'm just saying it's going to shift part of where the money is going in the economy. And I. The stigma in renting, I completely agree, has gone away. I remember when Aaron and I first got married, she really wanted. She was gung ho, like, I want to buy a house right now. And I just looked there and I said, there is nothing wrong with renting. We're going to rent a house right now and figure out what our life is going to be like before we buy a house. And I mean, it was. We were one of the first of my friends and I mean, I'm in my mid-30s now. We're one of the first. Whenever we purchased our house, of all my friends, and we were 30.

Yeah, yeah, that's what you do. You get married and you buy a house.

I'm just saying we've been. Yeah, we've been married for at that point, probably seven years or so before we purchase our first house. And, you know, like I said, my friends who've been married about the same amount of time hadn't, and a lot of them still haven't. And, you know, there is no stigma to renting at all in our society.

Yeah, it has gone away. There used to be a stigma, though. I definitely remember even my own arrogance, frankly, where I would talk to people who were homeowners and not homeowners and being a realtor, a traditional realtor back in the old days, I will say judge them to a little bit of an extent. Not if they were younger, but if they were older. I thought, you know, I kind of thought in the back of my mind, shouldn't you be owning a house by now? But, you know, then I became a renter for, well, what, six, six, seven years? I was a renter and I loved it. I actually wish I was renting now. I own lots of rental properties, folks. I don't need to own the house I live in anyway. I do. I've already told that story. Okay, let's take a deeper look at them, at the way Fannie Mae props up the housing market. And there's a little video here I want to play and then we will have some comments on it. This is from the Wall street journal channel on YouTube, which is a great channel. Check it out. Let's take a listen here.

Owning a home has long been a staple of the American dream. And at the center of that are two big companies, Fannie Mae and Freddie Mac. Sound familiar? Maybe you haven't thought that much about them since the 2008 financial crisis.

The federal government is stepping into it to stabilize Fannie Mae and Fannie Freddie Mac.

The two companies almost collapsed under the weight of.

By the way, I should mention, of course, we only mentioned Fannie Mae, the bigger of the two. But both of them obviously are involved in the promotion of housing, which simply means when you promote something, what happens? The price goes up. Naturally. That's exactly what they do. They artificially pump up the prices and they artificially, as a result, suppress rental prices because those two are non correlating indicators.

Unprecedented housing bust but then the government stepped in to bail them out. Now the Trump administration has asked for plans to reshape Fannie and Freddie, but a housing finance overhaul could mean privatizing or shrinking the two companies, a process that some believe could mean mortgages will become more expensive and less affordable for millions of Americans.

That's okay with me. I know I may sound ridiculous, but if you think of the big picture that's actually good for society.

That includes the most popular home loan in the US the 30 year fixed rate mortgage. Homeowners like this mortgage because of the low monthly payments and the interest rate that doesn't fluctuate. We'll explain. But first you have to understand how Fannie and Freddie fit into the US Housing system.

First, homeowners borrow money from banks or other lenders. Then Fannie and Freddie buy these mortgages and package them into securities. Then they sell those securities to investors. Investors buy them because they're considered safe.

Because, Fannie, don't make that bet again. Investors, they apparently, that didn't work out so well, you know, just over 10 years ago, did it?

Safe is a relative term.

I guess in this one they used to have this saying. I guess it's out of vogue now. The saying was literally, it's as safe as houses. As safe as houses. Well, houses ain't always so safe as we saw during the Great Recession. Now, of course, our angle on investing, our philosophy of investing, we believe it's very safe because you're going to follow the Ten Commandments, especially Commandment Number 5. The property must make sense the day you buy it or you don't buy it. The people that were not safe did not follow the Ten Commandments at all.

Freddie take on much of the risk. Lenders and banks benefit too. Since the government takes on much of the default risk, lenders can make more loans to more people. Together, Fannie and Freddie now back about half of new US Mortgages.

So why do some want to change the two companies?

Some in Washington want to shrink or even get rid of Fannie and Freddie? And President Trump himself has indicated that he wants to roll back the government's involvement in the two companies, which have been under government control since the financial crisis. But a housing finance overhaul could mean privatizing or shrinking the two companies. Those looking to shrink Fannie and Freddie argue that the government shouldn't be involved in the housing market to the extent it is now.

Absolutely true. Any comments yet? You probably think they should, being a socialist like you are. What do you think about that? Do you think they should be involved in the housing market? I don't think so, but I'm not.

100% sure they shouldn't. But whenever I think about it, I'm kind of like, why? Why are they. There are a lot of things that I believe the government should be involved in, but this is not one of them, for the most part.

Good. No, they need to get out of the way because the other. Compared to what? Question is, well, what would happen if they weren't involved, if these things weren't subsidized? Well, that would free up government resources to do something else or maybe just put more money back in our pockets. Right. There's a lot of government resources other than just direct money involved in supporting and regulating. And not to say that they wouldn't be doing some regulation in the private market if it were privatized, but yeah, the, you know, the government has no business in this. They have no business in a lot of stuff, if you ask me. But anyway, let's continue.

They say that the private sector, not the government, should be filling this role.

Yes.

But those who support Fannie and Freddie say that homeownership is a path to prosperity for the middle class and that the government has a responsibility to keep housing affordable.

They do the exact opposite. They make housing more expensive. I mean, look, if it was the way it was in many other countries where your mortgage looked something like this, instead of, you know, what are the rates today you're going to pay on a mortgage? About four. For a homeowner you're going to pay that's around 4%, 4%, maybe four and a quarter. Right. And you can get that mortgage for a ridiculously long three decades. Now, if you had to pay the market rate for that mortgage, it would probably be at least 6.5% and it would maybe only be a 7, maybe a 5 or a 7 or a 10 year long fixed rate loan. It might go longer than that, but it might become adjustable after that initial five, seven or ten year period. So you wouldn't know what your payments are in the future. If you had to buy a house based on those criteria, the house would be less expensive. The reason we have this insanity in the housing market is because we've got all of this government money, or government insured money, whatever you want to call it, you know, the government's in there, okay? Coming at the housing market, anything you subsidize is going to get more expensive and more widespread. Anything you tax and regulate. Well, regulate is probably the wrong word because those get more expensive too. Because the cost of regulation and the anti competitive nature that ensues when you overregulate something. But if you tax something, you're going to get less of it. If you subsidize something, you're going to get more of it, okay? So if you want housing to be affordable, stop fricking subsidizing it.

I mean, you would think with the way that this is sounding, is that before Fannie and Freddie came in, everybody was homeless.

Yeah, it's absolutely stupid, right? Yeah, yeah, I know.

Good point, good point. And it's not that way at all. So let the free market make the mortgages. Let people buy them in a real economy. Of course, probably the best comparison here, and many of you listening know it all too, is the student loan and college tuition problem. The reason college got so expensive is because of Sallie Mae and these government Backed or government insured student loans. This tidal wave of money came at these universities. They all got super greedy. They raised the cost of tuition. They hired branding agencies and marketing firms and architects to design really cool campuses and beautiful gymnasiums. I'm calling it a gymnasium. Right. But really health spas to attract students. Okay. They got out of the business of education. They started buying up all the real estate in every city they're in. What does this have to do with college education? That's supposed to be their job, right? To provide college education. So they used all of this tidal wave of money to become these insanely wealthy entities. And the cost of college has increased at, you know, two, three, even four times the rate of inflation over the past couple of decades since they've been. Well, the past few decades since they've been insuring and backing student loans.

Yeah, and it also goes with, you know, we talked about how in the past it's everybody should own a home. It's also come into vogue that everybody needs a college education. And so it becomes, as it becomes more of a societal norm, then you have more people rushing in and then you also. Then you get that problem as well.

Yeah, absolutely. Good point. Okay, let's continue here.

But now some are wondering what would the US housing market look like without Fannie and Freddie?

Well, to start with, many non bank lenders might find it harder to operate. Unlike banks, these firms don't have deposits, which means it will be more expensive for them to lend money if Fannie and Freddie go away. These so called non bank lenders make up about half of new U.S. mortgages today. And they're often the only path that first time borrowers or middle income families have for getting a mortgage. That's because in the last decade many banks have focused largely on wealthy borrowers when making mortgages. And the non banks have moved in to fill the space they left. Beyond that, no one's really sure what the market would look like without Fannie and Freddie.

I'll tell you what it would look like. Housing would get less expensive and rents would increase.

Well, that's why I started at the beginning of the episode talking about the homeownership rate back in 1900 is because when I watched this video I thought, well, Fannie Mae and Freddie Mac haven't always been around. So let's look at the housing market before this. So that was one of the reasons why I looked at it that way. Now I will say one of the things when she talks about the non bank lenders is whenever the Mortgages change and the 30 year mortgage goes away potentially. And what you were talking about, how it becomes a, you know, 10 or 15 year adjustable rate mortgage. If you look at how long people actually own their homes in general in the United States, it's only I believe seven to 10 years. So a lot of these people are going to be selling their homes before it becomes adjustable. So it's not.

Right.

It's not as big of a concern for people. You're going to have a higher interest rate to begin with, but they're still going to say, you know, instead of basing my decision on a 4% interest rate, I'm going to base it on a 7 and not worry about 15 years down the road because I probably won't be living here.

Right, exactly. It's typically about seven years that someone is in their home. And of course it depends on the economic cycle, the style of home they buy, whether they outgrow it or it's, they're an empty nester and they got to move down. Demographics. There's a zillion factors there that impact that obviously. But you're right, most of them won't finish out the 30 year mortgage, the three decade mortgage, which by the way, investors, this is one of the reasons I say you should buy every property you can get your hands on and get a 30 year mortgage. Cause it's such a great deal. Okay, so make sure you're hearing both things here. The subtext of what I'm saying as I complain about Fannie and Freddie are that these are great deals, so go and gobble them up and get as much government subsidy as you can as an investor.

You don't have to like it to take advantage of.

Right, Exactly. Listen, and it's not talking out of two sides of your mouth, as the old saying goes to say. You hate the philosophy, but hey, if that's what we have in society, it's not like I'm going to ignore it, I'm going to take advantage of it. I'm not an idiot.

I'm not going to go to my bank and say, well, I understand you could give me a 4% interest rate, but come on, let's give me a 5 or 6%.

Yeah, I want to pay the market rate.

If there were a free market and Fannie Mae didn't exist, that's the rate I want to pay because I just want to donate extra money. Kind of like Warren Buffett who complains that taxes are too low for the rich, but he never pays more himself. Hashtag Hypocrite. Okay, let's keep going.

But let's consider other countries which don't operate their housing markets like the US does. In many countries, long term fixed rate home loans, including the 30 year fixed rate mortgage, aren't largely available. Instead, mortgage rates reset depending on the market. And even a 1 point increase in your mortgage's interest rate can add hundreds of dollars to your monthly payment. We can also look at the US before Fannie was created in 1938. Back then, borrowers had to come up with much larger down payments, often 50% or more. Mortgages also tended to last for just five or 10 years with a big balloon payment that came due at the end.

So future mortgages could look like this or not at all. Much of it depends on how the government plans to reshape Fannie and Freddie. But reshaping them won't be easy. People like the benefits they create, including the 30 year fixed rate mortgage. And right now there isn't much agreement on either side of the aisle on how to get rid of the government's involvement in housing. At least not without completely overhauling the way the housing system works.

So for now, Fannie and Freddie's future is still up in the air.

Yeah, that's pretty interesting. But the thing they never say is, of course, compared to what? Well, yes, it would be more expensive if the prices were the same, but if the prices, just like the student tuition, the college tuition prices, fell to meet the market without this ridiculously subsidized financing, you know, if the house was 20 or 30% less expensive, then it would be affordable, it will eventually fall to meet the market so that we have the process of what we call price discovery. Price discovery will occur. Now here's the thing that happens folks. You might be thinking if you are a new listener, or maybe you're a semi new listener and you weren't listening to me talk about this eight years ago or nine years ago. Look it, this is good for investors, okay? If you already own a bunch of properties, your rents are going to increase. And since you're investing for yield rather than capital gain, who cares that much about the price of the house, okay? Now it will ultimately adjust back, but in the initial stages of an event like this, you would see price declines almost, it would almost be for sure, but you would see rent increases. Because think about it, look it like on a recent episode we talked about how the annualized number of home sales was 5.2 million per year. Imagine if that number went from 5 million to 1 million. Okay. It went down by 80%, for example. If that number went down, all those people would be either number one, staying put, or they'd be renting. And you would see upward pressure on rents because ultimately people have to move. Okay. They can't stay put forever, usually because they have life changes, job opportunities, relatives who are ill and need care, and they got to go live in their city. Family gets bigger, family gets smaller, whatever. There are reasons people need to move, obviously, and so they will eventually move. And they probably wouldn't be buyers on that move. They would be renters. And so you would see a huge upward pressure on rents. I think this actually would be good for investors. And initially it will not be good, but overall it will be good for the economy.

Yeah. I was looking at the homeownership rates in 2000. The census hasn't put out their 2010 numbers. And thinking about. You mentioned that the homeownership rate, natural rate, it's probably around 55%. And the average homeownership rate in 2000 was 66.2%. But most of the states that we are currently offering properties in are actually higher than that, like around 69, 70, 72%, I believe, in some. So you would see prices. I know in Tennessee it's higher than normal. Memphis is more like 50, 50, renter, owner. But in general, if we're seeing those come down even more percent wise, then your price is going to go down even more than the national average. It could make properties cheaper to purchase in, in areas that are already good.

Right. So there'd be a buying opportunity, too. Here is always the issue. Don't worry, everything will equalize. But the time during that equalization, that move back toward. Remember your biology class? Homeostasis. Right. Your body always tries to have homeostasis. It tries to equalize. Right. I think that's what that all meant. This was a few years back. Okay. But during that equalization process, that's the time people, they go into financial ruin because they can't withstand the adjustment period. And that's why I talk so much about sustainable investment investing. Sustainable investing. When you talk about sustainability, it's not about the environment, it's about financial sustainability. You've got to be able to make it through times of change so that you can stay in the game or you are prepared to take advantage of opportunities that come your way. So, yeah, a lot of interesting things there. And Adam, this is going to tie into another discussion we're going to have on a future episode about a potential giant Mega shift, mega huge, ginormous change in the real estate industry. Do you want to give our listeners a little clue about that?

Well, I would say if you own a personal residence, you've probably looked at it. It has three initials that most people know.

It is the mls, the Multiple Listing Service. The mls. Yeah. There may be a huge, huge change coming to the way the entire real estate industry operates and it may also become more like the way it operates in foreign countries. And this will present some problems and big opportunities at the same time. So we're going to talk about that on a future episode. And Adam, I think we got to wrap it up for today. Thank you for joining me. Oh, one more thing I want to say, though, we have listeners in 165 countries and this interestingly doesn't really impact you that much because you're probably not able to get Fannie Mae or Freddie Mac loans if you're investing in the US Real estate market. But I think you can see we've talked about it in the past, but you can see it more clearly after this episode of how the United States is such a special housing market. It is really, really special. And for you American listeners, and you're thinking, well, I should buy property abroad. You know, we have looked at that. I've been to 83 countries and many of them I've looked at real estate and we just haven't been able to find even one of those that is attractive enough. We could certainly recommend foreign properties to you. We've been pitched by many people offering them in Costa Rica, in Australia, in Europe, in China, just all over the world. It has just never made sense. Otherwise we would have brought that to you. Now, who knows what the future will hold. But at this time and for the past 15 years, we have never found any of those opportunities that we would want to bring to you, although they've dangled a lot of money in front of us, especially those, I remember the, those Costa Rican promoters and the Belize promoters, too. A lot of people wanting to sell property in those places, but we've just never found it to be very attractive. So we've never recommended it.

I think for foreign buyers, this is even better news.

Oh, it is.

Because then at least you're fighting on an even playing surface.

Right. Right. Yeah. The playing field is much more even and you're in a position where you're getting better value. And so, yeah, it's much more level playing field. It's absolutely.

Even if prices don't change at all.

Yeah. So what that means is that the other effect of this would be more foreign investment. There's already a lot. I mean, the US Is a hotbed of foreign investment, but there'd be even more incentive for foreign buyers to buy up US Real estate, which would have upward pressure on prices. So, see, there are all these factors that come into play that, you know, the simpleton says, oh, well, like it was in the video, well, Fannie Mae goes away, then housing won't be affordable to all these people, oh, where's the violin? But, you know, they never realize the price will adjust. There will be more foreign buyers. You know, there's all these. And the free market will come in and fill the financing void, too. Okay? Now granted, it might be a little more expensive, but it won't be as much as it is now because with these two agencies out of the way or privatized or having a smaller impact, however it ends up happening, there would be more interest in investors filling in the void. They would see opportunities here. So there's always equalizing forces. You know, don't worry about this stuff. But anyway, that's enough for today. Thanks for joining us, everybody. Check out Jason Hartman.com for our upcoming events for properties. Of course, talk to one of our investment counselors, like Adam or our other investment counselors. They can help you. And we look forward to talking to you on the next episode. Happy investing.

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