Everyone has probably heard the news that mortgage rates recently set all time lows. Of course, every mortgage company in town has been advertising this on the radio and the internet for the last five years, but this time it's actually true. Mortgage rates recently hit 52 year lows. In other words, rates are not only the lowest they've ever been in my lifetime, they're the lowest they've ever been in my parent's lifetime as well.
Take a look at these charts of historical mortgage rates:
SOURCE - Freddie Mac
And here's a chart of rates since the year 2000 which shows a better picture of the recent trend:
SOURCE: Freddie Mac
** It's important to note that buyers with less than perfect credit and/or buyers that don't want to pay points or lender closing costs can expect to pay higher rates than these averages.
So what has kept mortgage rates so low recently? Is there some designated person in the Treasury or the Federal Reserve that just logs onto a computer system and changes "the rate" whenever they decide they need to be lower? Is there some government institution that votes on what mortgage rates should be on any given day?
Actually the process is a little more complicated than that. In reality, no single person or entity directly controls mortgage rates. Rates are ultimately determined by the supply and demand of mortgage-backed securities, also called mortgage bonds. Supply and demand, as it does in any kind of economics, is affected by a variety of different factors.
When the demand is lower for mortgage bonds, the yields increase which, in turn, causes mortgage rates to rise. And likewise, when the demand is high for mortgage bonds (as has been the case lately), the yields decrease, which causes mortgage rates to stay low.
So based on these rules, one would conclude that the demand for mortgage bonds would be very high right now. And that is true, but there is one fundamental difference this time: A large part of the demand is the result of a government program to purchase mortgage bonds with the goal of keeping rates artifically low to stimulate the housing market. In other words, the government has effectively lowered mortgage rates by directly intervening in the mortgage market by purchasing mortgage bonds, which is not something that happens in a "normal" economy.
This program began shortly after the start of the credit crisis in late 2008. On November 25, 2008, the Federal Reserve announced their intention to begin purchasing up to $600 billion in mortgage-backed securities. An expansion of this program was announced on March 18, 2009 which outlined the Fed's intentions to purchase a total of up to 1.25 trillion dollars of mortgage-backed securites until the end of 2009. And in late 2009, they also announced that the purchases of securities would extend until the end of the first quarter in 2010.
So as it stands now, the effects of this program will likely cease to have any effect on mortgage rates once the program winds down in spring of 2010. However, many economists question whether demand for these securities will be strong enough to keep mortgage rates from spiking to levels that might slam the brakes on the housing market. Even some officials within the Fed are apparently concerned about the effect that ending this program will have on the market.
At this point, the fundamental problem seems to be a lack of trust by investors. After all, Wall Street was unable to accurately price the risk of mortgage backed securities, which is a fear that certainly still exists in the minds of some institutional investors.
Whether or not this program will be extended yet again is unknown at this point. At some point, the Fed will likely have to discontinue socializing the mortgage market and either find a way to restore investor confidence or fundamentally change how the secondary mortgage market functions. Until then, mortgage rates will likely be very dependent on direct intervention by the Fed. Since there's no guarantee that this program will be extended past the first quarter of 2010, home buyers and current homeowners that will benefit from refinancing to lower rates should consider the impact that ending this program will have on their cost of home ownership. Waiting for rates to come down even lower may be a very risky proposition.
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