Everyone’s talking about yesterday’s big Fed rate cut. And almost as soon as the huge cut was announced, people began talking about whether the 50 basis points the Fed took off its discount rate was enough. Enough to stymie a housing recession that is. And, ultimately, it probably isn’t. The point is to stave off a broader economic recession by stimulating consumer spending and borrowing (our entire economy is based on borrowing now) and boost investor confidence (which it did, as a rather giddy stock market attests). But what about the subprime market? Will the Fed rate cut have the same affect on the subprime market as it is having on so many other market? The answer is: Probably not.
Who’s benefiting from the Fed rate cut?
Consumers will see lower rates on auto loans, and even on credit cards (although with the jacked up rates some cards already have, that could just mean that the rates go back to their pre-credit crisis level). People who own stocks are the main beneficiaries, and those who are all about the carry trade (hint: use the Swiss franc to fund purchases of the euro). The bond market is down, and inflation concerns are on the rise, so long-term Treasuries are not a real good bet. But, all this inflation talk and the Fed cut and dollar weakness is helping gold. So gold investors are likely to reap the benefits. Even in the housing market, some will see benefits, although these benefits may take some time to materialize.
One area that will benefit fairly soon, though, is the area of jumbo loans. These rates should come down, making them more affordable for still-expensive real estate markets in major cities. And, some homeowners with adjustable rate mortgages may benefit. As loans reset over the next year, they will do so to interest rates that are lower than originally expected. For some, that means that the higher mortgage payments will be manageable, possibly forestalling thousands of foreclosures. The same case is true for some subprime market loans. But many saddled with these borderline-predatory home loans will still be feeling the pain.
What the Fed rate cut can’t do for the subprime market
One of the main drawbacks to the subprime market is that many of the people with these loans maybe shouldn’t have had them in the first place. Their credit may still be bad. This means that they will be ineligible to take take advantage of a refinance to a much lower conventional rate. Another problem is that one of the main features of subprime market loans is prepayment penalties. It is a very real possibility that a refinance could result in prepayment penalties in thousands — or even tens of thousands — of dollars. That means that even those who could qualify for a refinance may still not be able to afford it.
The Fed rate cut can’t help with those problems on the subprime market. What’s needed in those cases is some creativity on the part of the mortgage industry, and a bit more reluctance in the future to lend money to whoever asks for it.