When Lenders Pay the Mortgage Interest

April
20

Written by: Jon McGraw

It’s a topsy-turvy world.

In the United States, during the last quarter of 2014, about 7 million (13 percent) of all mortgaged residential properties were underwater, meaning the mortgage loan amount was at least 25 percent higher than the estimated market value of the residential property. That’s a significantly lower number than the 12.8 million that were underwater early in 2012. Regardless, it’s an unhappy situation for the homeowners, who may wish they lived in Spain.

Why Spain? Well, as has been mentioned before, negative interest rates have been sweeping across Europe and have affected mortgage rates. The Wall Street Journal explained:

“In countries such as Spain, Portugal, and Italy, the base interest rate used for many loans, especially mortgages, is the euro interbank offered rate, or Euribor … Banks set interest rates on many loans as a small percentage above or below a benchmark such as Euribor. As rates have declined, sometimes to below zero, some banks have faced the paradox of paying interest to those who have borrowed money from them.”

In fact, at least one bank—the seventh largest in Spain—has been paying some of its mortgage holders’ interest! It just deducts the interest amount from the principal amount the borrower owes. It may be safe to say European banks’ expenses have increased since, in addition to paying interest on some loans they’ve issued, banks also have been “compelled to rebuild computer programs, update legal documents, and redo spreadsheets to account for negative rates.”

In addition to the tumbling interest rates, Europe is also contending with issues related to the Greek debt crisis, which triggered a sell-off in stock markets late last week. U.S. markets fared no better. Major markets lost value last week on concerns about Greece leaving the euro, the potential for weaker-than-expected earnings results and new trading regulations in China.

Data as of 4/17/15 1-Week Y-T-D 1-Year 3-Year 5-Year 10-Year
Standard & Poor’s 500 (Domestic Stocks) -1.0% 1.1% 11.6% 14.4% 11.7% 6.2%
Dow Jones Global ex-U.S. 0.3 7.0 0.6 6.4 3.3 3.8
10-year Treasury Note (Yield Only) 1.9 NA 2.7 2.0 3.8 4.3
Gold (per ounce) -0.3 0.3 -7.4 -9.7 1.2 10.9
Bloomberg Commodity Index 2.4 -2.4 -26.0 -9.7 -5.2 -3.9
DJ Equity All REIT Total Return Index -0.8 1.4 17.8 13.0 14.4 9.1

Is Creative Destruction Accelerating?

In the middle of the last century, economist Joseph Schumpeter presented the idea of creative destruction of capitalism, which causes current ideas, technologies, equipment, skills and more to become obsolete. He wrote that creative destruction economics “incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism.”

Globalization appears to have hastened the pace of creative destruction in ways Schumpeter may not have imagined. The current issue of PWC’s Strategy + Business pointed out:

“Business operates today in a world of accelerating change. In the United States, it took 76 years for half the population to own a telephone. The smartphone achieved the same penetration in less than a decade. It took France 100 years to double the share of its over-60 population within the labor force, from 7 to 14 percent. China, India, and Brazil will make the same leap in less than 30 years. Due to the whirlwind pace of global forces, a phenomenal amount of value can be created or destroyed more quickly today than at any other point in history.”

Strategy + Business suggested most companies will face disruptions during 2015 as the ways in which they reach customers and the products and services they provide to customers evolve. The magazine pointed out seven industries that are on the cusp of significant change, including automobile manufacturing (where brand is less important than it once was), shipping (which will be competing with 3-D printing), health care (where consumers are becoming more influential) and telecommunications (where companies are being challenged by nimble and responsive rivals).

Change may open new investment opportunities and, sometimes, may make companies that have been good investments less attractive.

Weekly Fun—Think About It

“What we need to do is always lean into the future; when the world changes around you and when it changes against you—what used to be a tail wind is now a head wind—you have to lean into that and figure out what to do because complaining isn’t a strategy.”

Jeff Bezos, founder and CEO of Amazon