Reasons To Include International Investments In Your Portfolio

The United States currently represents 60% of the global equity market.¹ This means investors with an extreme home bias are ignoring 40% of the equity universe. In truth, doing so over the last 14.5 years would have worked out for you, but markets are cyclical, so it’s unlikely this lasts forever. There’s also a long history of throne-swapping between U.S. and international stocks (see chart). Particularly in today’s challenging market environment, investors should think twice before giving ex-U.S. assets the cold shoulder.

The U.S. stock market doesn’t always dominate

The United States doesn’t always dominate the global equity market! When U.S. stocks are facing headwinds, international stocks may rise to the occasion. Sustained periods of outperformance by one region have been fairly common historically.

These bouts can be significant. For example, consider the ‘lost decade’ for U.S. stocks that started in the early 2000s. Between 2000 – 2009, the cumulative total return for the S&P 500 was negative 9.1% vs positive 30.7% for the MSCI All Country World Index ex U.S.

International stocks could outperform if U.S. stocks are struggling

The graphic above breaks down performance of the S&P 500 vs the MSCI EAFE. During periods when domestic stocks produced below-average returns, international equities did better, by over 2% on average. Further, during all rolling 10-year periods since 1971, the top performer was almost a coin toss: the U.S. only did better 56% of the time.

Since trying to time regime changes is very difficult in real time without the benefit of hindsight, there are reasons to consider allocating both U.S. and ex-U.S. equities to an asset allocation.

Ex-U.S. equity may be able to help reduce risk in a portfolio

Having international exposure in your portfolio in the early 2000s and throughout the Global Financial Crisis would have been a key ingredient in reducing overall risk and maintaining some level of investment return.

By way of example, consider this hypothetical 60/40 portfolio of stocks to bonds. The U.S. only portfolio includes the S&P 500 and Bloomberg Barclays U.S. Aggregate Bond index while the U.S. & international portfolio allocates 20% of the equity exposure to the MSCI All-Country World Index ex-U.S.

Other reasons to consider international assets in your portfolio

  • Different sector concentrations. The U.S. is fairly tech heavy. The S&P 500 is currently about 27% technology companies. Compare that to Europe at 7%. Exposure to other sectors like financials and commodities in emerging markets can add overall diversification.
  • Currency risk and return. At a high level, the relative strength of foreign currencies to the dollar has the potential to help or hurt returns. Asset managers can engage in different strategies to hedge or boost returns around foreign exchange rates, but the takeaway is that currency can be another layer of diversification.
  • Valuations. Valuations outside of the United States have been much cheaper to the long-run averages for quite some time. Especially relative to the U.S., international stocks look much more attractive on a valuation standpoint. Despite the selloff in 2022, the S&P 500 is only now just in line with the 20-year average P/E ratio.

The takeaway

Adding ex-U.S. stocks to your portfolio may be able to help reduce risk over the long-term. But there are downsides to be aware of. Most notably, international assets tend to be more volatile. These swings can be to the upside or the downside. And just as the unique elements of investing overseas (like foreign exchange rates or sector exposure) can help investors at times, they can also hurt U.S. investors in other circumstances.Quintex3-1-2-2-1-1-1-1-1-1-1-1-1-1

As with anything in investing, consider your personal risk tolerance, time horizon, and circumstances. Diversification isn’t a magic bullet, and if you do add international exposure to your portfolio, be sure to appropriately size the position to meet your needs.

I’m a Certified Financial Planner professional specializing in stock options and sudden wealth.

Source: Reasons To Include International Investments In Your Portfolio

International markets are generally divided into 2 categories:

  • Developed markets are located in countries that have established industries, widespread infrastructure, secure economies, and a relatively high standard of living.
    Examples of developed markets include the United Kingdom, Japan, Australia, Canada, and France.
  • Emerging markets are located in countries that have developing capital markets and less-stable economies. However, they’re considered to be in the process of transitioning into developed markets, and they may be experiencing rapid growth. Currently, emerging markets make up about 15% to 20% of international markets in total.
    Examples of emerging markets include India, China, Egypt, South Africa, Mexico, and Russia.

Not surprisingly, developed markets are similar to the United States when it comes to volatility levels and the range of potential returns. Emerging markets are more volatile than developed markets and have a wider range of potential outcomes. For that reason, we recommend that you don’t overweight your allocation to emerging markets.

How to choose an international investment

There are a few ways you can invest in foreign markets:

  • International funds invest only in foreign markets, excluding the United States.
  • Global or world funds provide exposure to both foreign and U.S. markets.
  • Regional funds invest primarily in a specific part of the world, like Europe or the Pacific region.
  • Developed markets funds focus on foreign countries with proven economies, like Japan, France, or the United Kingdom.
  • Emerging markets funds combine investments in countries that are considered to have “developing” economies, like India, Brazil, or China.

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Five Oversold Small Cap Stocks And One Mid Cap For Bear Market Bargain Hunters

The S&P 500 is hitting new 2022 lows in this year’s brutal selloff leading up to Wednesday’s Federal Open Market Committee meeting where the Federal Reserve’s policy committee is expected to hike short-term interest rates aggressively to tamp down inflation. The large cap index is down 22% from its peak on the first trading day of the year and tumbled 10% in just the past week as the latest readings on inflation showed price increases accelerating. For small caps, the market’s stumble into bear market territory has been exceptionally severe, with the Russell 2000 index down 30% from its peak last fall and back to pre-pandemic levels.

There could be plenty of near-term volatility ahead as the Fed accelerates its rate-tightening cycle. JPMorgan and Goldman Sachs both expect a hike of 75 basis points this week, even though Fed chair Jerome Powell dismissed that possibility at its last meeting a month ago. Last week’s 8.6% inflation reading put central bankers on their heels. But with the stock bloodbath already well underway, investors and asset managers are licking their chops at some valuations, if they have dry powder to deploy.

“The risk in the stock market is far lower today than it was six months ago just by virtue of the correction that we’ve seen. A lot of the excesses are being flushed out as we speak,” says Nicholas Galluccio, co-portfolio manager of the $57 million Teton Westwood SmallCap Equity fund. “We think it’s a perfect setup for possibly a strong 2023.”

Galluccio’s fund has outperformed the market, losing 13% so far this year after a 30% gain in 2021, to earn a 5-star rating on Morningstar. He’s been on offense this year adding to his positions in several small caps trading at low valuations, including Carmel, Indiana’s KAR Auction Services, which builds wholesale used car marketplaces and generated $2.3 billion in 2021 revenue.

Used car retailer Carvana bought its physical auction segment for $2.2 billion in February, larger than the market cap of the company at the time, though the proceeds were used to pay down debt. The acquisition prompted a 38% one-day pop in KAR’s stock, but it has given back most of those gains in the recent correction. The deal hasn’t been as kind to Carvana, which has lost 91% of its value this year.

“We got very lucky that Carvana we believe overpaid for their physical auction business for $2 billion, which is an enormous sum,” Galluccio says. “Now they’re strictly digital with a virtually debt-free balance sheet.”

Another of Galluccio’s picks is Texas-based Flowserve (FLS), which manufactures flow control equipment like pumps and valves. Many of its customers are petrochemical refiners and exploration and production companies in the energy industry. Most energy-linked businesses have had a strong year with the price of crude oil surging, though Flowserve has lagged with a 5% decline. Its bookings rose 15% in the first quarter to $1.1 billion, and Galluccio expects its margins to improve as it builds its backlog.

Value investors are also looking at oversold areas of the market for stocks trading at tiny multiples and now offering attractive dividend yields. John Buckingham, portfolio manager and editor of The Prudent Speculator newsletter, likes the Whirlpool Corp. (WHR), a century-old home appliance manufacturer headquartered in Benton Charter, Michigan. With home sales falling, Whirlpool has exposure to an anticipated recession, but its stock is down 34% this year, trading at six times earnings, with a dividend yield over 4% and an appetite for buying back shares. While not a small cap, at $8.7 billion in market capitalization, this mid-cap has long been a favorite of value investors.

“Lower home sales are certainly a headwind, but the market has already discounted something far worse than what we think will ultimately occur,” Buckingham says. “If we have a quote-unquote ‘mild recession,’ I think that many of the businesses have already been priced for a severe recession.”

Another consumer business Buckingham singles out from his portfolio: Foot Locker (FL). The shoe retailer is down 36% this year, including a 30% drop in one day on February 25 when it said its revenue from its biggest supplier Nike NKE +2.5% would decline this year as the apparel giant increasingly sells directly to customers. Now, Foot Locker trades at a tiny 3.5 times trailing earnings, with a 5.7% dividend yield to attract income investors.

While those value plays are cheap, Jim Oberweis, chief investment officer of small-cap growth firm Oberweis Asset Management, makes the case that growth stock valuations are even more attractive after taking the worst of the selloff so far. The Russell 2000 growth index is down 31% this year, and Oberweis’ small-cap opportunities fund has declined 22%. One outperformer is its top holding, Lantheus Holdings (LNTH), which has already more than doubled this year.

Lantheus makes nuclear imaging products that can be injected into patients and make body parts glow during medical scans to help diagnose diseases. It received FDA approval last year for a product called Pylarify which can identify prostate cancer, and fourth-quarter revenue rose 38%. The Massachusetts-based company trades at about 20 times expected 2022 earnings.

“It’s very hard to find a company at 20 times earnings with those growth numbers and those kinds of moats in terms of patents and defensible market positions that are very difficult for competitors to attack,” Oberweis says.

Oberweis boasts that Lantheus has no correlation to the broader economic environment and recessionary fears. Some of his other top holdings do have some inflation exposure but have already been deeply discounted this year and are trading at multiples more typical of value names. Axcelis Technologies (ACLS), which sells components to chipmakers like Intel INTC and TSMC to make semiconductors, grew its revenue by 40% in 2021 and another 53% in the first quarter of 2022, but has declined by 25% this year and trades at 15 times trailing earnings.

“Small growth stocks, which have been bludgeoned, I think have much better prospects to do well in an inflationary environment because many more innovative companies have pricing power, the ability to quickly raise prices and get the customers to actually pay them,” Oberweis says. “I don’t know if it’ll be this year or next year, but I think people buying right now are likely to earn significant positive returns because of the low valuations.”

I’m a reporter on Forbes’ money team covering investing trends and Wall Street’s difference-makers. I’ve reported on the world’s billionaires for Forbes’

Source: Five Oversold Small Cap Stocks And One Mid Cap For Bear Market Bargain Hunters

In trading on Tuesday, shares of the Vanguard Small-Cap ETF (Symbol: VB) entered into oversold territory, changing hands as low as $180.29 per share. We define oversold territory using the Relative Strength Index, or RSI, which is a technical analysis indicator used to measure momentum on a scale of zero to 100. A stock is considered to be oversold if the RSI reading falls below 30.

In the case of Vanguard Small-Cap, the RSI reading has hit 29.8 — by comparison, the RSI reading for the S&P 500 is currently 33.6. A bullish investor could look at VB’s 29.8 reading as a sign that the recent heavy selling is in the process of exhausting itself, and begin to look for entry point opportunities on the buy side.

Looking at a chart of one year performance , VB’s low point in its 52 week range is $180.29 per share, with $241.06 as the 52 week high point — that compares with a last trade of $183.66. Vanguard Small-Cap shares are currently trading down about 0.5% on the day.

ACV Auctions (ACVA)

The company has been public for just under one year, having held its IPO on March 24 of last year. The initial offering saw ACV put more than 19 million shares on the market, at a price of $25 each, and the company raised $414 million in new capital. Since the IPO, however, ACV stock price has fallen by 63%.

Despite the fall in share price, ACV has been reporting solid year-over-year revenue gains. In the last quarter reported, 3Q21, the company showed $91.8 million at the top line, up 36% yoy. This included a 41% gain in Marketplace and Service revenue, which accounted for $78.3 million of the total.

Arbe Robotics (ARBE)

The company entered the public markets in October of last year, completing a SPAC combination at that time with Industrial Tech Acquisitions. The ARBE stock started trading on the NASDAQ on October 8, and the company realized $118 million in gross proceeds from the transaction. The stock quickly surged to a peak above $14 in November, and has since fallen 48% from that level.

Even though the stock has fallen, Arbe has had some solid wins to report in recent months. BAIC Group, a Chinese auto manufacturer, announced in November that Arbe’s radar systems are expected to be installed on BAIC Group’s new vehicles going forward, and that same month, Weifu, a Chinese tier-1 auto parts supplier launched a customer road-pilot phase of Arbe’s radar systems and chipsets. Weifu expects to have the systems in full production by the end of this year.

ALX Oncology Holdings (ALXO)

The company has had several recent updates on its evorpacept programs, and released the announcements in January. The updates include the expected initiation of a Phase 2/3 clinical trial for the treatment of great gastric/GEJ cancer. This trial will evaluate evorpacept in combination with several other therapeutic agents, including Herceptin (trastuzumab), Cyramza (ramucirumab) and paclitaxel.

Another upcoming catalyst announced in January concerns the Phase 1b trial of an evorpacept-azacitidine combo in the treatment of MDS, myelodysplastic syndromes. The company will be releasing the dose optimization readout of this trial during this year.

The final January update came from the FDA, which granted evorpacept its Orphan Drug Designation in the treatment of gastric cancer and gastroesophageal junction cancer. Orphan Drug Designation comes with financial benefits, including tax credits and user fee exemptions for the company….

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Trading Commissions May Return If the SEC Makes Big Stock-Trading Changes

The Securities and Exchange Commission is aiming to shake up the mechanics of US stock trading in the wake of last year’s meme-stock frenzy, and some experts in the markets say changes could lead to a shift back to retail investors paying commissions to make trades.

SEC Chairman Gary Gensler in a speech this week outlined six areas of market structure where rules could be updated to foster greater efficiencies, particularly for retail investors. Gensler is proposing the agency consider sending retail stock orders to auctions under which trading firms would compete to execute the transactions to ensure investors receive the best prices.

Such a move could alter the payment for order flow system, or PFOF, under which brokerage firms including Robinhood, TDAmeritrade, and E-Trade are compensated for sending customers’ orders to market makers rather than sending them directly to an exchange. Among the biggest market makers are Citadel Securities and Virtu Financial. PFOF supports zero-commission trading at online brokers that serve amateur investors.

A significant PFOF change “may reset the entire playing field and cost individual investors more money because we’ll have to go back to some sort of commission model,” Sean Bonner, CEO of Guild Financial, a self-direct investment app that focuses on active and retired members of the military, told Insider. Guild, an early-stage business, doesn’t use the payment for order flow system.

“I can guarantee you that commission model will be much higher than the rebates paying the payment for order flow — much higher, by a factor of 10s to 100s,” said Bonner, who has more than 20 years of experience on Wall Street from floor trading to working as a mutual fund manager. “Retail investors are saving billions of dollars a year on the current payment for order flow model.”

Major wholesalers such as Citadel, Virtu, G1X and Two Sigma provided $6.1 billion in price improvements in 2020 and 2021 combined, said BrokerChooser, based on its analysis. Zero-commission trading in recent years has fueled a boom in activity among individual investors who no longer had to pay their brokers as much as $6.95 for each trade.

Proposed changes to shake up rules in the US stock market was met with criticism from Robinhood’s chief legal officer Dan Gallagher this week. “It is a really good climate for retail, so to go in and muck with it right now, to me, is a little worrisome,” Gallagher said at a conference in New York, according to The Wall Street Journal. Retail traders are benefitting from zero-commission transactions and fast execution of trades, he said.

Following last year’s meme-stock frenzy, Gensler last year asked the SEC to review rules related to equity-market structure, including payment for order flow. PFOF is banned in some countries. Gensler isn’t proposing a ban but such a move would make it “almost inevitable” that retail investors return to a commission-based system, Kerim Derhalli, founder and CEO of investment app Invstr, told Insider.

“I don’t think anyone is going to be willing to provide brokerage services on their own without having some form of revenue associated with it,” he said. The Invstr app has 3 million users worldwide and the company doesn’t use the PFOF system. “If we return to a commission structure then you could argue that might discourage people from trading as frequently as they have been trading. You could, on the other hand, argue that if people start trading less, and investing more, they’ll be better off,” over the long term, he said.

“What would seem to be a simple solution would be [for Gensler] to say, ‘We’re going to make PFOF illegal and … retail trading needs to go through the exchange where it’s transparent and the prices are transparent and people can have confidence in the system,” said Derhalli. Bonner at Guild said overall he sees a ban on PFOF hurting retailer traders. “To be honest, a lot of brokers would hope that they get rid of this payment for order flow model and get back to charging for commissions because there’s a lot more revenue for the brokers in that.”

Gary Gensler is trying to level the playing field for small investors. He’s expected to outline a proposal for new rules to help them – possibly in a speech later today. The idea is to make sure those investors get the best deal when buying or selling stocks. When you make a trade, you may go through a broker. Some are paid to send their orders to wholesalers – who may not give you the best price.

Dennis Kelleher of the investor advocacy group Better Markets said the SEC is thinking about creating auctions. “Which should drive down the cost for retail investors and therefore give them the best price available,” he said. But the plumbing of trading is complicated. And if you divert the flow of buy and sell orders, some small investors could get hurt. Jaret Seiberg with the investment bank Cowen said those deals between brokers and wholesalers paved the way for free trading.

“If you start dismantling the system it’s not clear that you’re going to be able to still provide free access to trading,” he said. Investors advocates said at least with a commission you know what you’re paying upfront. There’s plenty of time for this debate. Any new rules would have to go through a long, public process.

Source: Trading Commissions May Return If the SEC Makes Big Stock-Trading Changes

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What Is ESG’s Significance To Business Leaders?

No matter where you sit in a business, you’ll likely have heard of environmental, social, and governance (ESG). Your peers in finance, legal/compliance, and risk will have heard of it a lot. And we’ll all be hearing a lot more about it in the coming years. But ESG can mean a lot of different things, depending on who is saying it and the context in which they’re saying it, which leads to confusion.

What Is ESG?

Essentially, ESG denotes the qualitative and quantitative data that either:

  • describes a business’s environmental status, societal characteristics, and corporate governance (thus ‘E’ for environment, ‘S’ for social and ‘G’ for governance) or …
  • … reflects a business’s or sector’s or investment’s exposure to, and management of, environmental-, social-, or governance-related risks.

The data points can vary, but the World Economic Forum and Sustainability Accounting Standards Board provide common lists.

The Significance For Businesses

Interest in ESG started with arguments such as those of Harvard economist Michael Porter that businesses (and capitalism as a whole) benefit from thinking about value generation beyond the purely economic — that is, businesses should focus their value generation on all of their stakeholders (including communities, employees, and customers), not just shareholders or owners.

This broader interpretation of value would provide for longer-term competitiveness, profit, and business health, because it both drives down risk and makes the most of scarce resources. In fact, it was the investment community that coined the term, as they sought to widen their analysis to nonfinancial factors

This broader understanding of value generation has worked its way into the echelons of corporate management; even the cradle of Milton “profit is everything” Friedman, the University of Chicago Booth School of Business, teaches ESG.

ESG performance, the managerial decisions that drive it, and the data points that reflect it have become a form of proxy measurement on the quality of a business’s management, right alongside its financial data. Naturally, they have then become a matter of board attention, leaders’ attention, and operational discussions, with supporting functions, processes, and technologies across a company.

ESG now features much more prominently in just about every company’s key strategic discussions, especially at its highest levels. As the battle over Exxon last year and McDonald’s right now show, these decisions determine the futures of companies. And Elon Musk’s recent ESG post on Twitter, meant to disparage the term, reveals its importance even in companies that resist its influence.

Expect ESG to become more important, driven especially by climate change and scrutiny of capitalism’s social impact but also by companies’ efforts to seek competitive advantage and differentiation and investors’ desire to incorporate nonfinancial analysis for better returns.

ESG investing, despite the criticisms, is becoming increasingly popular and is most likely to be an investing approach used by millennials. Morgan Stanley Bank (NYSE: MS) recently conducted a survey that found that nearly 90% of millennial investors were interested in pursuing investments that more closely reflect the values they hold.

By 2018, approximately $12 trillion worth of investment assets were selected using a socially responsible investing strategy. As millennials begin to comprise a larger segment of the total pool of investors, you can expect ESG investing to expand right along with them.

The financial services industry’s responded to the growing demand for ESG investments by making moves such as offering ESG-focused exchange-traded funds (ETFs). Both of the two largest ETF providers – BlackRock and Vanguard – offer clients a choice of ESG-focused funds. BlackRock added six new ESG funds in 2020, and its equity investment team now includes a Head of Sustainable Investing. Brokerage firms now customarily offer stock analysis employing ESG investment strategies, and robo-advisors such as Wealthfront can be set to seek out socially responsible investments.

Although ESG metrics are not currently a required part of financial reports for publicly traded companies, a growing number of companies are proudly including them in their reported statements or a separately issued document. Increasingly there is consensus among many regulators that some form of standardized ESG disclosures will be required of publicly-traded companies on most major global stock exchanges.

Each of the three elements of ESG investing – environmental, social, and corporate governance – comprises a number of criteria that may be considered, either by socially responsible investors or by companies aiming to adopt a more ESG-friendly operational stance.

While many ESG criteria are rather subjective (such as evaluations of “diversity” or “inclusion”), moves are occurring on several fronts that are designed to provide more objective, credible ratings of a company’s performance in terms of ESG policies and actions.

In the past, a company’s standing in terms of ESG has often depended less on substantive practices and more on how good the company’s public relations department is. Businesses such as AccountAbility offer ESG consulting services for companies that want to implement broad ESG-friendly policies and practices.

Environmental criteria include a company’s use of renewable energy sources, its waste management program, how it handles potential problems of air or water pollution arising from its operations, deforestation issues (if applicable), and its attitude and actions around climate change issues.

Other possible environmental issues include raw material sourcing (e.g., does the company use fair trade suppliers and organic ingredients?) and whether a company follows biodiversity practices on land it owns or controls.

Social criteria cover a vast range of potential issues. There are many separate social aspects of ESG, but all of them are essentially about social relationships. One of the key relationships for a company, from the point of view of many socially responsible investors, is its relationship with its employees. Following is a brief rundown of just some of the issues that may be considered when examining how a company handles its social relationships:

  • Is employee pay fair, or perhaps even generous, compared to comparable jobs or similar positions throughout the industry? What type of retirement plans are employees offered? Does the company contribute to the employee retirement plans?
  • In addition to basic wages or salary, what benefits or perks are employees provided with? With ESG-concerned investors, it can make a big difference in the evaluation of your company if, for example, you do things such as providing a free, very lavish buffet lunch for all employees every Friday – or provide other types of benefits that aren’t common at all workplaces, such as an on-site fitness center.
  • Workplace policies regarding diversity, inclusion, and prevention of sexual harassment are also frequently considered.
  • Employee training and education programs; for example, does your company provide financial support for continuing or higher education and/or flexible working hours for employees pursuing further education; what opportunities exist for employees to be trained in new job skills at the company that will qualify them for higher-paying positions?
  • What level of employee engagement with management is there? How much input do employees have in determining operational procedures within their respective departments?
  • The level of employee turnover
  • What’s the company’s mission statement? Is it socially relevant and beneficial to society?
  • How well are customer relationships managed? Does the company engage with customers on social media? How responsive and efficient is the customer service department? Does the company have a negative history of consumer protection issues, such as product recalls?
  • Does the company take a public or political stance on human rights issues? Does it donate money to charitable causes?

Governance, in the context of ESG, is essentially about how a company is managed by those in the top floor executive offices. How well do executive management and the board of directors attend to the interests of the company’s various stakeholders – employees, suppliers, shareholders, and customers? Does the company give back to the community where it is located?

Financial and accounting transparency and full and honest financial reporting are often considered key elements of good corporate governance. Also important are board members acting in a genuine fiduciary relationship with stockholders and being careful to avoid conflicts of interest with that duty. Are the board members and company executives a diverse and inclusive group?

The issue of executive compensation is a primary focus of many ESG investors, who, for example, don’t tend to favor multi-million-dollar bonuses for executives while the company imposes a salary freeze in effect for all other employees. Is extra compensation for executives appropriately tied to increasing the long-term value, viability, and profitability of the business?

An example of how responsible corporate governance is put into practice can be seen in the policies of the company, Intuit (NASDAQ: INTU). One of the company’s corporate policies that is aimed at helping to ensure that company executives take on a strong vested interest in the company’s ongoing success, rather than just in earning some quarterly bonus, is a rule that requires the top-level chief executive officer to maintain stock ownership equivalent in value to ten times their annual salary.

In addition, executive bonuses depend on more than just revenue or income – factors such as employee, shareholder, and customer satisfaction are also part of the calculation.

Forrester (Nasdaq: FORR) is one of the most influential research and advisory firms in the world. We help leaders across technology, marketing, customer

Source: What Is ESG’s Significance To Business Leaders?

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What To Know about FHA Cash-Out Refinance Requirements and Guidelines

An FHA cash-out refinance allows you to tap the equity in your home with low credit score requirements. (Shutterstock)

If you have an FHA loan, you may be able to tap into your home equity by refinancing. This can give you the cash you need to renovate your home, consolidate debt, or help pay for a college education. Here’s a look at the FHA cash-out refinance program, including how it works and how you can qualify.

You won’t find rates for FHA cash-out refinances at Credible, but if you’re looking for a great cash-out refinance rate on a conventional loan, it only takes a few minutes to compare personalized, prequalified rates.

What is an FHA cash-out refinance and how does it work?

An FHA cash-out refinance allows you to take out a new FHA loan, insured by the Federal Housing Administration, that pays off and replaces your current one. Your new loan will be for a larger amount than you currently owe, with the difference coming to you as cash.

You can use the money you receive from an FHA cash-out refinance for anything, but people often use the funds to pay off high-interest debt, or to pay for home improvements or large expenses like medical bills or tuition payments.

An FHA cash-out refinance is different from another common type of FHA loan refinance: the FHA Streamline Refinance. A streamline refinance doesn’t allow you to take cash out from your equity, but you benefit from a quicker and easier process. Streamline refinances don’t require a home appraisal, and you may not need to go through a credit check. With a cash-out refinance, you’ll need to do both.

How do you qualify for an FHA cash-out refinance?

FHA cash-out refinances have requirements similar to those of a traditional FHA loan, with some key differences. To be approved for an FHA cash-out refinance, you must have:

  • A credit score of at least 500
  • A debt-to-income ratio below 50%
  • At least 20% equity in your home after refinancing
  • Owned and lived in the home as your principal residence for the past 12 months
  • Made all mortgage payments within a month of their due date for the past 12 months

The amount of cash you’re able to take out depends on your home value and how much equity you have in the home. After your refinance is complete, you must still have 20% equity.

For example, let’s say you have a home that’s worth $300,000 and you owe $200,000 on your current mortgage. You currently have about 33% equity in your home.

In this situation, you could potentially take out up to $40,000 in cash through an FHA cash-out refinance loan worth $240,000. That would leave you with $60,000 in equity, or 20% of your home’s value. Lenders may have different requirements for an FHA cash-out refinance based on your credit score and other factors.

What does an FHA cash-out refinance cost?

You’ll need to pay closing costs when you complete an FHA cash-out refinance. These fees may range up to 3% to 4% of the amount of your loan. You may be able to finance some or all of your closing costs into your new loan.

Common closing costs include:

  • Origination fee
  • Appraisal fee
  • Title fees
  • Attorney fees
  • Mortgage insurance premiums
  • Homeowners insurance premiums

All FHA loans require an upfront mortgage insurance premium that’s typically 1.75% of the loan amount. If your FHA cash-out refinance is within three years of your original FHA loan, you may be able to get a refund for a percentage of the upfront premium you paid.

Credible can help you find a great refinance rate on a traditional cash-out refinance. Easily compare multiple lenders and see prequalified rates in a few minutes.

How to apply for an FHA cash-out refinance

Applying for an FHA cash-out refinance is a similar process to the one you used when you first bought your home. Contact your current lender for a rate quote, but also request quotes from several other lenders and see if you qualify.

Different lenders may have different requirements for who can qualify for an FHA cash-out refinance and how much money you may be able to take out. By visiting the lender’s website, you may be able to prequalify for a loan by filling out a simple form and going through a quick credit check. Prequalifying for a loan may affect your credit score. However, credit bureaus treat credit checks from multiple lenders within 45 days as one inquiry, so you’re not penalized for shopping around and getting quotes from a variety of options.

Documents you’ll need for an FHA cash-out refinance

Once you’ve found a lender, your loan officer will give you instructions on how to proceed with a full loan application. You’ll need to provide financial documents, which may include:

  • Tax returns
  • W-2 forms
  • Pay stubs
  • Bank account statements

Other requirements for an FHA cash-out refinance

Your lender will also order an appraisal of your home to determine its value. This is key in determining how much equity you currently have, and thus how much cash you’ll be able to take out. You’ll also need to go through a thorough review of your credit history.

If you qualify for the loan based on the appraisal and underwriting, you’ll typically meet in person to sign the closing documents. Some lenders may offer an e-closing option, where this can be done virtually. If you’re refinancing with a different lender, be sure to continue paying your existing mortgage until you receive confirmation that it’s paid off.

Pros and cons of an FHA cash-out refinance

Like any financial transaction, an FHA cash-out refinance has its benefits and drawbacks. Here are a few to keep in mind before you make your decision:

Pros

  • Tap home equity without a second loan — A cash-out refinance allows you to take money out of your home equity without needing to take on another loan and monthly payment. You’ll simply have another first mortgage.
  • Low credit qualifying requirements — You may be able to qualify for an FHA cash-out refinance with a credit score as low as 500, much lower than what you’d need for other types of loans.
  • Low interest rates — FHA interest rates will generally be lower than what you’d find on other types of loans, like a credit card or personal loan. That’s because FHA loans are secured loans, using your home as collateral for the loan.

Cons

  • Higher monthly payments — Since you’re taking out a larger loan than what you currently owe, your monthly payments may be higher than what you’re currently paying. This may strain your budget.
  • Mortgage insurance required — FHA loans require mortgage insurance no matter how much equity you have in your home. You’ll pay an upfront mortgage insurance premium when you close on the loan, and annual mortgage premiums that may become part of your monthly payment. In some cases, you may be able to cancel FHA mortgage insurance payments, but no sooner than 11 years after you take out your loan. This is different from conventional loans, where you may be able to forego mortgage insurance if you have more than 20% equity in your home.
  • Risk of foreclosure — If you fail to make your payments on an FHA loan, you risk losing your home to foreclosure. If your new mortgage has significantly higher payments, this may increase your risk. You may be able to get the cash you need with an unsecured loan, like a personal loan, that doesn’t run the risk of losing your home.

Source: What to know about FHA cash-out refinance requirements and guidelines | Fox Business

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