The $11 trillion paradox in home equity

Transcript:

Allie Barefoot: Welcome back to Data in Context. I'm Allie Barefoot with Cotality.

Right now U.S. homeowners are technically wealthier than they've ever been before. But there's a massive structural disconnect between owning that wealth on paper and actually being able to use it to survive economic shocks. Cotality data shows that U.S. borrowers are sitting on a staggering $11 trillion in tappable equity. That's a pretty incredible economic buffer. But here's the signal within the noise: 97% of that wealth is sitting completely idle. It's this massive dormant engine that's locked away at a time when living costs are high and consumer sentiment is lagging. So to help us go through this noise and figure out who's truly trapped in this market, we're going to be talking with Cotality's Principal Economist, Thom Malone. Let's put the data into context.

Allie Barefoot: Thom, welcome to Data in Context. Thank you so much for joining us.‍

Thom Malone: All right, thanks for having me, Allie. Great to be here.

Allie Barefoot: Of course! Now let's go on ahead and start with the headline metric that we've seen: $11 trillion in tappable equity. Sounds like an enormous number, and with the average borrower holding about $300,000 in equity. So on paper, this makes homeownership the second largest asset class in the country, right behind publicly traded stocks. So if homeowners are this wealthy, why do so many feel financially squeezed?

Thom Malone: Well, um, because you don't pay for groceries with your house, right, Allie? Um, [laughs] you know, you're dependent on cash flow to cover your grocery costs, your filling up your car with gas, etc., your monthly expenses. So a home doesn't generate the cash flow needed for that in the same way that like, you know, a rental property would, if you own stocks it would pay dividends, or, you know, just your income from a job does. So when inflation picks up, your expenses pick up as well, it eats into your paycheck, and it's not like you can pay for those extra costs with a one-ten-thousandth share of your house.

Allie Barefoot: And let's talk about the roadblocks keeping people from pulling that cash out, like you said. For homeowners who do have equity and want to access it, what are the mathematical and psychological hurdles that are stopping them from reaching that tappable equity?

Thom Malone: Right, so these are the people who have equity, need to access it um for some reason. It—the first barrier for these people is just a knowledge barrier. A lot of people don't actually realize these products exist. So, they might just not actually try to access them in the first place or even look for it. They also, conceptually it seems like getting another loan for your property in a lot of ways, even so, that means that that—that's a hard psychological barrier as well. But there's also the idea of just, uh, the amount of money when you're getting one of these products for a loan is comparable uh when you're getting one of—when, yeah, the amount of money when you're getting one of these products is comparable to a loan, or a slightly smaller version of a second mortgage basically, of a mortgage. So, it's a hard psychological barrier to get by even though a product like a home equity line of credit means that you don't actually need to access all this money at once. So, uh, if I get approved for a home equity line of credit of say $100,000, that doesn't mean I have a $100,000 loan, it means I have a line of credit for $100,000 that I can tap into and access if I need it. So, some people might see this as getting a second loan and again try to instead just add some money to that credit card bill each month, but people—but the reality of of it is that it's quite different from that. Then there's also other methods of getting equity out of your home, like this would be, well, one is cash-out refis. That's one way to tap into equity, that was really popular a few years ago, but with rates on the rise, it just doesn't make as much sense anymore because that actually is getting a new loan for your home. So, [laughs] so with rates on the rise, trending to and a lot of people locked in at a sub-4% rate, that's just not an attractive option anymore either.

Allie Barefoot: Right, so for a lot of people it's almost like taking on another loan just to be able to tap into that money that they currently need right now, so that can definitely add a little bit more financial stress to their everyday life. And, it sounds like there's a bit of homeowner hesitation when it comes to unlocking that equity. And you mentioned it there, the banking system itself seems to be acting as a—as a rigid gatekeeper here in terms of how do I get that money out. So how is traditional lending leaving the modern workforce technically house rich but cash poor?

Thom Malone: Um, so this is kind of the other side of the coin of the last question. These are the people who have it, need it, and want to access it but can't. They have all the barriers that we mentioned previously, the people who have it but aren't accessing it, but aren't accessing it too. But they have some additional ones. Firstly, they need to be able to get past the barrier of, if they know about it, they want it, and they're seeking it, that then they've got the barrier that they might not be able to substantially prove to a lender that they're going to have the ability to repay this. This might be someone who, you know, recently lost their job, maybe a gig economy worker with an unstable income, or maybe even a recently retired person. They might lack the required documents for a loan, they might look poor along traditional method—metrics like a FICO score to get a manageable interest rate for a loan. So when push comes to shove, they're kind of left with two lousy options, either, you know, add more credit card debt or sell their home because they can't get approved. So, and—and that's important, that there's a real mismatch in this dynamic with adding credit card debt as well, since the most common way, uh, the common—the most common use people have for tap—for tapped equity is either renovations for their home or consolidating debt. So they might be using credit card debt to pay for temporary expenses when they lose a job, or they're in a gig economy and it's a down period or something like that, like they've just got a temporary reduction in cash flow, and they might not be able to get the home equity line of credit now, but then later on they'll have income again, they'll be able to get the home equity line of credit and they'll, uh, with a lower interest rate than the credit card debt, and they'll be able to pay off the credit card debt with that home equity line of credit. And so there's just kind of a timing mismatch in here of like, makes us wonder why—if there's not some way you can't skip the middle step here and just go straight to the home equity line of credit.

Allie Barefoot: Right, I can see how a homeowner can feel caught in a cycle of getting money, using the money, unlocking it. And Cotality's data emphasizes that this isn't just an even blanket of cash across the country. There's a massive regional and generational divergence happening here with that tappable equity as well. Can you kind of expose where this wealth is concentrated and—and who is it—who is being left exposed?

Thom Malone: Mhm. Well, yeah, our Cotality's quarterly equity report shows that all—it's all in California. All the tappable... [laughs] About a quarter of the—about a quarter of the equity and a quarter of the tappable equity in the entire country lies in California. But, uh, in terms of the equity that has actually been tapped into, they only account for twen—about 12% on it. So it's really geographically concentrated in one place where it appears that the occupants don't need it compared with say, a um, Midwestern, a lot of Midwestern states like think, uh, Ohio, Illinois, Pennsylvania. These places all have somewhere between 3 to 5% of the tapped equity, but on the—of the tapped equity, they only have about 2% of the tappable equity. So they're over, th- um... they're—they're borrowing beyond what we would expect basically. And so it's um, furthermore, and demographics have a lot to do with this within the states, like the—the tappable equity is concentrated amongst a lot of older people who have been in their homes a long time, have accrued a lot of capital gains, and have lower monthly expenses also because they've paid off their loans or they have low rates. So th- th- th—this means that they are people who are less in a position when they experience economic hard—or they're less likely to be in a position to experience the economic hardship where they actually need to tap into their equity, whereas, you know, younger people, non-homeowners, new homeowners, are also happening to be the most economically vulnerable, but they also happen to be the least—the ones with the least tappable equity.

Allie Barefoot: And with residential mobility slowing down significantly, people can't just sell their homes to cash out like they used to, right?

Thom Malone: Uh, no, they can't, and there's two reasons for that. The first is lock-in with low mortgage rates, and the second is converging prices across the country. So, the lock-in effect, it's—it's been pretty widely talked about, including on this series [laughs] um, uh, but people, so the—the—the short version of it is people want to downsize, people might want to downsize and cash out some of their equity in the process, but because th- the current interest rates are so much higher than the interest rates they have on their home right now, downsizing to a smaller home might actually increase their monthly payment. So—so accessing, you know, selling your home, downsizing, getting $100,000 of equity, $200,000 of equity cashing out might not actually lo—be worth it to them when they're thinking, oh, well, now I have to pay more per month as well. And so that's the—that's the lock-in effect. But the other less cited reason for this is that regional price differences are actually—have actually converged across the country in the last few years. So, th- that is to say like the difference in price in the ho—between a home in say, New York and Florida, um, is less than it used to be. And so if you're looking to make the cash-out move like, oh, I'm going to sell my home in Connecticut and move down to Florida and grab $300,000 of equity in the process when I retire, that looks a bit less attractive than it used to because the amount of equity—because the difference in price that you're paying is going to be less. So that $300,000 say might be $200,000 now. Still good, but not as good as it was before.

Allie Barefoot: Right. Thom, this is all very eye-opening data here. And looking ahead, as the job market softens and home prices stay high, something has to give. So what do financial institutions and fintech innovators need to do to safely unlock this multi-trillion dollar sleeping giant?

Thom Malone: Uh, there's a—there's a few different ways. So, the first is modernizing access to home equity. So, th- th- expand the currently existing products like HELOCs, um, home equity investments, and shared equity, in ways that the friction for applying for them and the intimidation factor can be reduced. Um, that can look like faster underwriting, automated valuations, more digital closings. There's also rewriting the underlying models underneath these things, such as like, you know, FICO scores are old and possibly quite out of date but still used heavily in approving cash-flow models like this. So modernizing those is certainly a, um, certainly an one possibility. Then there's other possibilities connecting the mismatch that we mentioned before, so like there's some, you know, a lot of seniors and long-tenure owners mostly in California who have trillions in tappable and idle equity that is sitting in their homes underutilized and maybe—and potentially maybe there's a way that th- they could invest in a way that that equity gets redistributed in some way, but that's—we're talking more pie-in-the-sky kind of stuff with that.

Allie Barefoot: Yeah, I'm definitely looking forward to seeing how this tappable equity will be unlocked, uh, hopefully to help homeowners that need it most be able to pay off what they need to. Um, but thank you so much, Thom. This is definitely something that I'll be keeping an eye on, and hopefully we'll get to have another conversation about this later on in the year. But thank you for joining us.

Thom Malone: Of course, thanks for having me.

Allie Barefoot: Thank you again to Thom Malone for joining us here on Data in Context, and thank you guys so much for listening. If you haven't already, go ahead, hit that subscribe button on Cotality's YouTube page. And if you want to find out more information, as always, head over to Cotality.com.

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