8 ms·

> My question is: why would you fix for 30yr when you know you're paying multiple points to offset market uncertainty? To fix your monthly payment for the next

by runeks 5y ago

> My question is: why would you fix for 30yr when you know you're paying multiple points to offset market uncertainty? To fix your monthly payment for the next 30 years. Furthermore, with a fixed rate mortgage you can benefit from interest rate volatility since you can always buy back the debt at par. In practice this means you can: 1. Take out a fixed rate loan for $n at x% 2. If the rate doubles (to 2x%) you can refinance and you now only owe half ($n/2) 3. If the rate falls to x% again you can refinance again and now you owe the original amount ($n/2) at the original rate (x%) This ignores the cost of refinancing the loan, so you’ll be paying some fixed sum for that (which is lost), but if rates moves sufficiently this is a huge benefit that you don’t get with a variable rate mortgage loan. * This is based on how the Danish Realkredit mortgage works. I’m not certain, but I believe fixed rate mortgages work the same way in other countries.

shawabawa3 5y ago
Can you explain point 2? Why do you refinance if rates go up? Surely the point is that if rates go up you've locked in a better rate How does half your debt disappear if rates go up?
- ilammy 5y ago
  The rates usually don't go up because the lender got greedy and felt like screwing you harder. If the mortgage rate doubles, that's because your money is now worth less than it used to be. This also likely means that your income is going to grow soon enough, so you wouldn't have much trouble repaying your loan. While your remaining loan is still nominally $N, if you took a loan today for the remaining part using the paid-off equity as collateral, you could likely get twice as much and the lender would proceed accordingly.
- runeks 5y ago
  Sure. > Why do you refinance if rates go up? Surely the point is that if rates go up you've locked in a better rate You don't have to, but you can choose to either (a) keep the same rate and owe the same amount, or (b) get the new (higher) rate and owe less. > How does half your debt disappear if rates go up? It doesn't exactly. However, the market value of your mortgage loan halves if the rate doubles (roughly). This means you can: 1. Take out a loan for half the original amount, at double the interest rate 2. Buy back your original loan 3. Destroy the original loan (which is fine since you are both creditor and debtor for that loan) This leaves you with the loan taken in step 1. To understand why it works this way it's instructive to think of a loan as an exchange of wealth for income. One party has some savings (wealth) and would like to exchange it for an income (e.g. to pay recurring expenses). Another party has an income and would like to trade it for wealth (e.g. to buy a house). Viewing a loan in this way, the interest rate is nothing more than the current price of a certain income stream (measured in percent per year). For example, let's assume that the current market price for an income of $2 per year is $100. This is equivalent to an interest rate of 2% per year. I have $100 that I'm willing to part with for an income of $2 per year, and you have an income of at least $2 per year that you're willing to sell for $100. We make the deal. Now, the day after we shake hands to make the deal, the current market price for an income of $2 per year falls to $50. This is equivalent to a doubling of the interest rate (from 2% per year to 4% per year). I still have the income of $2 per year that I paid $100 for yesterday, but if I want to sell this to someone else I can only get $50 for it. And if you were to ask me to buy back the loan for $50 I would have nothing against that, since I could go out immediately after and buy the same $2/year income for those $50.
  - Khoth 5y ago
    At the start of the post you were the person taking out the loan but by the time you got to the explanation at the bottom of the post you were the bank. If you've sold your $2/year income for $100 yesterday, why on earth do you want to buy it back and resell it for $50? e: Oh wait I see. You want to go to the bank and say "I know I owe you $100+interest over the life of the mortgage, but what if I just pay you back $50 right now and we call it even?" Does that actually work?
  - cascom 5y ago
    Except no bank (at least in the us) will cut that deal, because they don’t mark those loans to market.
    - SilasX 5y ago
      Yeah, that was my reaction too. But ... why not? It still seems possible. I mean, between banks they definitely have to mark it to market in order to sell the mortgage, so they would take a big hit to sell when interest rates go up. So, why can't you put on a funny hat and glasses, get a new mortgage at the higher rate, and then go buy your existing one at a discount?
      - cascom 5y ago
        If you’re “trading” the mortgage, you mark to market, but if you hold it for investment then you don’t (this is driven by bank capital requirements - if I need to go raise capital every time interest rates went up that would create huge problems (despite the credit staying the same (if not improving))
    - Gareth321 5y ago
      The person is describing a bond loan. They're not offered in most countries.
pjc50 5y ago
> To fix your monthly payment for the next 30 years. Sure, but .. nothing else is fixed for those 30 years? Not your salary, the price of fuel, your place of work, life circumstances? And you're paying a premium at the start for this. It's more apparent in the UK where you can choose how long you want the fix for and see the interest rate you're offered go up. > you can benefit from interest rate volatility since you can always buy back the debt at par. Obviously the bank knows this and charges you a small premium over the spot rate so they don't lose money. > If the rate doubles (to 2x%) you can refinance and you now only owe half ($n/2) I don't understand this: the amount outstanding - the redemption value - of a fixed rate mortgage is known in advance at every month throughout its term, regardless of what the market interest rate is?
- simulate-me 5y ago
  In the US, you can refinance your loans. Essentially taking out a new loan to pay off your old mortgage. The new loan has the new market interest rate. In the US, you’re typically allowed to pay off additional principal without any penalty, so you can end a loan by paying off the outstanding principal without needing the pay the remainder of the interest on the loan.
  - nsteel 5y ago
    As I understand it, it's this refinancing that leads US citizens in the UK ending up with a surprising US capital gains bill after they re-mortgage their UK property. And we also (normally) have ERCs in the UK so as usual, the rest is the worst of both worlds. Ideally one could renounce the citizenship, oh wait...
    - simulate-me 5y ago
      The IRS does not consider a refinance (even a cash-out refinance) to be a capital gain. The IRS also allows for 250K (500K if married) of tax-free capital gains on the sale of a primary residence. Maybe you misunderstood your friends’ situations.
matsemann 5y ago
Danish loans are a bit special, though, as in most people don't pay them down, but just use them as a way of having a fixed rent. At least that's my experience, all my danish family own their houses, but have almost done no real payments on the loans. Whenever they've paid down a bit, that is just refinanced to a new loan so they get cash, aggressively promoted by the banks. Or the equity is just based on a hope that the loan will stay the same but the value of the property increase. Which it certainly has not.
- maxerickson 5y ago
  I wonder if the way I use "homeowner" differently than the phrase "own their home" is particular to me. I wouldn't say someone with a mostly unpaid mortgage "owns their home" even though they are a homeowner. It is "their house" and things like that also, but I hesitate to directly say that they own it.
  - kube-system 5y ago
    In the US, liens are encumbrances to title but aren't transfers of title. It's a legally important distinction because the law often recognizes that even in a foreclosure, equity belongs to the homeowner ...among all of the other rights that come along with property ownership.
Gareth321 5y ago
> If the rate doubles (to 2x%) you can refinance and you now only owe half ($n/2) FYI you're describing a bond loan. Most countries, including America, don't really offer these, so most people won't understand what you're talking about.
spand 5y ago
Your math is wildly off in point 2. Rates are now above 3% and ie. a 0.5% bond is trading at 77 [1] [1] http://www.nasdaqomxnordic.com/bonds/denmark/microsite?Instrument=XCSE05NYK01EA53 http://www.nasdaqomxnordic.com/bonds/denmark/microsite?Instr...

by runeks 5y ago

shawabawa3 5y ago

Can you explain point 2? Why do you refinance if rates go up? Surely the point is that if rates go up you've locked in a better rate How does half your debt disappear if rates go up?

ilammy 5y ago
The rates usually don't go up because the lender got greedy and felt like screwing you harder. If the mortgage rate doubles, that's because your money is now worth less than it used to be. This also likely means that your income is going to grow soon enough, so you wouldn't have much trouble repaying your loan. While your remaining loan is still nominally $N, if you took a loan today for the remaining part using the paid-off equity as collateral, you could likely get twice as much and the lender would proceed accordingly.
runeks 5y ago
Sure. > Why do you refinance if rates go up? Surely the point is that if rates go up you've locked in a better rate You don't have to, but you can choose to either (a) keep the same rate and owe the same amount, or (b) get the new (higher) rate and owe less. > How does half your debt disappear if rates go up? It doesn't exactly. However, the market value of your mortgage loan halves if the rate doubles (roughly). This means you can: 1. Take out a loan for half the original amount, at double the interest rate 2. Buy back your original loan 3. Destroy the original loan (which is fine since you are both creditor and debtor for that loan) This leaves you with the loan taken in step 1. To understand why it works this way it's instructive to think of a loan as an exchange of wealth for income. One party has some savings (wealth) and would like to exchange it for an income (e.g. to pay recurring expenses). Another party has an income and would like to trade it for wealth (e.g. to buy a house). Viewing a loan in this way, the interest rate is nothing more than the current price of a certain income stream (measured in percent per year). For example, let's assume that the current market price for an income of $2 per year is $100. This is equivalent to an interest rate of 2% per year. I have $100 that I'm willing to part with for an income of $2 per year, and you have an income of at least $2 per year that you're willing to sell for $100. We make the deal. Now, the day after we shake hands to make the deal, the current market price for an income of $2 per year falls to $50. This is equivalent to a doubling of the interest rate (from 2% per year to 4% per year). I still have the income of $2 per year that I paid $100 for yesterday, but if I want to sell this to someone else I can only get $50 for it. And if you were to ask me to buy back the loan for $50 I would have nothing against that, since I could go out immediately after and buy the same $2/year income for those $50.
- Khoth 5y ago
  At the start of the post you were the person taking out the loan but by the time you got to the explanation at the bottom of the post you were the bank. If you've sold your $2/year income for $100 yesterday, why on earth do you want to buy it back and resell it for $50? e: Oh wait I see. You want to go to the bank and say "I know I owe you $100+interest over the life of the mortgage, but what if I just pay you back $50 right now and we call it even?" Does that actually work?
- cascom 5y ago
  Except no bank (at least in the us) will cut that deal, because they don’t mark those loans to market.
  - SilasX 5y ago
    Yeah, that was my reaction too. But ... why not? It still seems possible. I mean, between banks they definitely have to mark it to market in order to sell the mortgage, so they would take a big hit to sell when interest rates go up. So, why can't you put on a funny hat and glasses, get a new mortgage at the higher rate, and then go buy your existing one at a discount?
    - cascom 5y ago
      If you’re “trading” the mortgage, you mark to market, but if you hold it for investment then you don’t (this is driven by bank capital requirements - if I need to go raise capital every time interest rates went up that would create huge problems (despite the credit staying the same (if not improving))
  - Gareth321 5y ago
    The person is describing a bond loan. They're not offered in most countries.

pjc50 5y ago

> To fix your monthly payment for the next 30 years. Sure, but .. nothing else is fixed for those 30 years? Not your salary, the price of fuel, your place of work, life circumstances? And you're paying a premium at the start for this. It's more apparent in the UK where you can choose how long you want the fix for and see the interest rate you're offered go up. > you can benefit from interest rate volatility since you can always buy back the debt at par. Obviously the bank knows this and charges you a small premium over the spot rate so they don't lose money. > If the rate doubles (to 2x%) you can refinance and you now only owe half ($n/2) I don't understand this: the amount outstanding - the redemption value - of a fixed rate mortgage is known in advance at every month throughout its term, regardless of what the market interest rate is?

simulate-me 5y ago
In the US, you can refinance your loans. Essentially taking out a new loan to pay off your old mortgage. The new loan has the new market interest rate. In the US, you’re typically allowed to pay off additional principal without any penalty, so you can end a loan by paying off the outstanding principal without needing the pay the remainder of the interest on the loan.
- nsteel 5y ago
  As I understand it, it's this refinancing that leads US citizens in the UK ending up with a surprising US capital gains bill after they re-mortgage their UK property. And we also (normally) have ERCs in the UK so as usual, the rest is the worst of both worlds. Ideally one could renounce the citizenship, oh wait...
  - simulate-me 5y ago
    The IRS does not consider a refinance (even a cash-out refinance) to be a capital gain. The IRS also allows for 250K (500K if married) of tax-free capital gains on the sale of a primary residence. Maybe you misunderstood your friends’ situations.

matsemann 5y ago

Danish loans are a bit special, though, as in most people don't pay them down, but just use them as a way of having a fixed rent. At least that's my experience, all my danish family own their houses, but have almost done no real payments on the loans. Whenever they've paid down a bit, that is just refinanced to a new loan so they get cash, aggressively promoted by the banks. Or the equity is just based on a hope that the loan will stay the same but the value of the property increase. Which it certainly has not.

maxerickson 5y ago
I wonder if the way I use "homeowner" differently than the phrase "own their home" is particular to me. I wouldn't say someone with a mostly unpaid mortgage "owns their home" even though they are a homeowner. It is "their house" and things like that also, but I hesitate to directly say that they own it.
- kube-system 5y ago
  In the US, liens are encumbrances to title but aren't transfers of title. It's a legally important distinction because the law often recognizes that even in a foreclosure, equity belongs to the homeowner ...among all of the other rights that come along with property ownership.

Gareth321 5y ago

> If the rate doubles (to 2x%) you can refinance and you now only owe half ($n/2) FYI you're describing a bond loan. Most countries, including America, don't really offer these, so most people won't understand what you're talking about.

spand 5y ago

Your math is wildly off in point 2. Rates are now above 3% and ie. a 0.5% bond is trading at 77 [1] [1] http://www.nasdaqomxnordic.com/bonds/denmark/microsite?Instrument=XCSE05NYK01EA53 http://www.nasdaqomxnordic.com/bonds/denmark/microsite?Instr...