Mortgage refinancing in 2001 and early 2002

Federal Reserve Bulletin, Dec, 2002 by Glenn Canner, Karen Dynan, Wayne Passmore

The amounts borrowed through cash-out refinancing in some cases were sizable (table 7). Nearly 40 percent of homeowners who extracted equity in 2001 and the first half of 2002 took out more than $25,000. The mean amount liquefied was about $26,700, and the median amount was $18,500. Both of these amounts are substantially larger than the corresponding figures from the 1999 survey; in that survey, the mean amount was $18,240, and the median amount was $10,000.

Although some refinancers added significantly to their mortgage debt by liquefying equity, those refinancers who borrowed extra funds ultimately owed, on average, somewhat less mortgage debt than those who did not (table 8). Those refinancers who liquefied equity owed an average of nearly $126,000, and those who did not owed roughly $133,500. Both groups of refinancers appear similar when measured by remaining equity, as both groups had average final loan-to-value ratios near 60 percent.

AN ECONOMETRIC ANALYSIS OF REFINANCING AND CASH-OUT

The surveys sponsored by the Federal Reserve provide an opportunity to use econometric techniques to rank the relative importance of different factors that have influenced refinancing and cash-out activity during the refinancing waves of the past four years. The household's economic and demographic characteristics and its expectations about future interest rates and economic conditions might be important determinants of this activity. (5)

The Decision to Refinance

As noted, deciding whether and when to refinance a home mortgage requires a balancing of costs and benefits. Using survey data, one can statistically rank the relative importance of various factors that may influence a homeowner's propensity to refinance, including the household's income and mortgage stares, demographic characteristics, and expectations for the future. (6) To increase the precision of the estimated models, we pooled responses from the current survey, which covered refinancings from the beginning of 2001 to the middle of June 2002, and an almost identical survey in the spring of 1999, covering refinancings from the beginning of 1998 through May 1999.

As described earlier, the primary reason that most homeowners refinance is to reduce their monthly mortgage payment. Our statistical analysis confirms the importance of interest rates in the decision to refinance, showing that the higher a homeowner's original mortgage rate, the more likely he or she was to refinance. (7)

A homeowner's income also plays a key role in the decision to refinance. In particular, homeowners with relatively low incomes were less likely to refinance, perhaps because closing costs are relatively more onerous for such households or because their credit histories are more likely to be impaired, reducing their likelihood of qualifying for a new mortgage.

The size of a homeowner's original mortgage also bears importantly on the propensity to refinance. As expected, homeowners with larger mortgages were more likely to refinance because potential interest savings were larger. According to our analysis, the effect of mortgage size is not so strong as that associated with mortgage rates or borrower income, but it is nonetheless important. Further analysis reveals that homeowners with mortgages under $50,000 were particularly less likely than others to refinance, perhaps because the transaction costs associated with refinancing a relatively small loan outweighed the potential interest savings.