August 25, 2009

 

What will happen to fixed mortgage rates when the Federal Reserve stops buying Mortgage Backed Securities later this year?

 

Here's my prediction: Not a lot. 

 

Some people fear fixed mortgage rates will skyrocket.  I'm not one of them.  Worst-case, I think we return to the 6% range, where we were before the Fed's intervention a year ago. But, I actually think they'll hover in the current trading range around 5% to 5.5% for some time.

 

The Fed definitely stepped in and created a market when it was dying on the vine in the Fall of 2008.  Last year, prior to the Fed's November 25th announcement that they'd buy up to $500 Billion of Fannie Mae and Freddie Mac's mortgage backed securities (subsequently expanded to $1.25 Trillion in the Spring of '09) 30 year fixed interest rates were hovering around 6%-6.5%. 

 

We'd seen two or three windows of opportunity in 2008 where rates hit 5.5%, but it wasn't until the Fed's November announcement that rates dipped below that mark, and hit as low as 4.5%-4.625% for a short time.

 

The Fed's expansion of that program in the Spring of 2009 helped mortgage rates dip again, and hover between 4.625% and 5% until May, even as the stock market was rallying off the March lows.  That's important, because usually when stocks advance, that's shifting the supply/demand equation, pulling money out of the relative safety of bonds and mortgage backed securities, moving it into higher risk/reward equities.  But the Fed's purchase program undoubtedly picked up much of that slack.

 

Additionally, the stock market rally was (and still is) fairly low volume, which could mean that a lot of money still needs to be placed where it's relatively safe, but earning more than zero.  On that note, 3-month Treasuries are paying just 13 basis points above zero (a basis point is 1/100th of 1%, and as the stock rally continues to have legs, the yield on the 10-yr Treasury is coming down, very close to breaking below a key level of 3.4%.  Under "normal" circumstances, we'd expect the yield on Treasuries to rise, when the stock market rallies.  (As an aside, the 10yr Treasury yield actually closed at 3.398% today).

 

From May into August, mortgage rates came off their floor and were hovering in the 5% to 5.5% range again.  Still terrific fixed interest rates, but...we get spoiled easily, don't we? 

 

Then, as the second quarter came to a close, and economic "green shoots" began turning brown, money found its way back into the MBS market, bringing 30-yr fixed rates back below 5% to 4.875%, just .25% above their historic floor.

 

Enter 3rd Quarter.  We had "cash for clunkers," ongoing incentives for first-time homebuyers, and consumers benefited from a slight tax reprieve via the economic stimulus plan enacted after Obama took office.  As a result, Q3 GDP is expected to show about a 3.5% growth rate.  Meanwhile Q2 GDP was revised to a better than expected -1%.  But, how much of that was due to government intervention, rather than organic growth?  Quite a lot.  Moreover, will this improvement continue into, and through Q4?  We'll see.

 

I do believe the worst is behind us, economically.  But, we're just now beginning to see the first wave of commercial defaults start to rise.  That poses significant risks for our banking/financial sector.  Unemployment is pegged to rise through much of next year.  And companies, for the most part, are still seeing their top line sales decline. 

 

The government stimulus should continue to keep the wheels on the car, for now, but in this tough environment, I think it's likely that the stock market will start to retrace some of its recent gains - as it becomes clear that the recent growth is not fundamentally sustainable without continued government intervention, which of course breeds another set of challenges.  The timing of this realization is likely to occur around the tail end of Q4 2009 or Q1 2010, basically coinciding with the Fed's unwinding their MBS purchase program.

 

And, since many investors have ridden this stock market wave, posting significant gains, it may be time for some profit taking, where they'll cash out and park funds in less risky, yet still substantial returns of MBS, treasuries and corporate bonds.

 

They can choose US Treasuries - little return, and virtually no risk.  Or, they can assume slightly higher risk, and buy up Mortgage Backed Securities, municipal bonds (there was a recent spike in that market, too) corporate bonds, etc. 

 

If you're buying recent vintage MBS, from 2008 and 2009, unless the seller is stuffing their bundle with older vintage loans, you're getting mortgages with at least 20% equity cushions (and much more in many cases) backed by borrowers with stable and verifiable income, assets, and solid credit histories.  Even accounting for some incremental job losses, and another down leg in home values, "most" of those newly minted loans should perform within historic ranges, with defaults in the 1% range.

 

And, if I can get a return of 5.5% on my money - in what I would term a pretty safe environment - that's not a bad deal.  Particularly if we do find ourselves in a deflationary environment.  Then, my actual returns could be 6.5% to 7.5%.  Not bad!  8% annualized returns are what the Stock Market Gurus sold us as standard for years - despite the fact that the major indices (Dow, S&P and NASDAQ) are basically in the same place now, as they were 10 years ago.

 

On top of those factors, since the Baby Boomers have seen their net worth plummet through declines in asset values (both in stocks and real estate) they may shift much of their portfolios to income generation, rather than equity appreciation.  This could further fuel demand for MBS and other income driving investments.

 

Sure, there were and continue to be some great runs and huge opportunities to make money in stocks - as long as you or your financial planner/broker buy the right stocks and move in and out of the market at the right times, but...as we know, that's easier said than done.

 

Investors may decide that's not worth the risk - in the near term - when they can park their funds in safer investment vehicles, and still net some handsome returns.

 

That's why I think mortgage rates will not see much of a jump - if any - as the Fed winds down their purchase program.  And, if The Fed believes otherwise, I'm fairly confident they'll extend the program accordingly.  They're going to do everything they can to reflate our economy.  And higher borrowing costs for consumers would add pressure to what may already be a pretty weak and tenuous recovery.

 

But, as always, time will tell.  Maybe we will indeed see a V-shaped economic recovery.  That's certainly what the stock market is anticipating.  Just because I don't see it playing out that way doesn't mean it won't happen.  We'll see as we continue moving through this cycle, and I'll do my best to keep you posted.

 

In the mean time, if you, your family, or friends have any questions about financing residential or commercial real estate, please call or email me.  Here are today's rates.  If you're in the market for a Jumbo ARM, the rates are screaming!!  Cheers!  E 

 

Conforming	Rates	Points	APR	Loan Amt	Payment
30 yr fixed mortgage	4.875%	1	5.075%	$300,000.00	$   1,588
15 yr fixed mortgage	4.375%	1	4.575%	$300,000.00	$   2,276
3/1 ARM	4.000%	1	4.190%	$300,000.00	$   1,432
5/1 ARM	4.000%	1	4.210%	$300,000.00	$   1,432
5/1 ARM Int Only	4.125%	1	4.385%	$300,000.00	$   1,031
Jumbo (ask me about the new limit, per your zip code)
30 yr fixed mortgage	6.625%	1	6.751%	$550,000.00	$   3,522
15 yr fixed mortgage	5.250%	1	5.505%	$550,000.00	$   4,421
3/1 ARM	3.875%	1	4.055%	$550,000.00	$   2,586
5/1 ARM	4.875%	1	5.095%	$550,000.00	$   2,911
5/1 ARM Int Only	5.000%	1	5.250%	$550,000.00	$   2,292
Rates subject to change without notice.
These rates and statistics are for informational purposes only to give you a sense of market movement and my opinion as to why.  Although these rates exist today, based on certain qualifying characteristics, your scenario may allow for lower or higher interest rates.  Licensed by the CA Dept of Real Estate, #01760965.  Equal Opportunity Housing Lender.  If you'd like to be removed from this list, please reply with REMOVE in the subject line.  You can also use this link, mailto:egrathwol@priority1stmortgage.com and add REMOVE to the subject line.  To add someone who would appreciate this information, send me their email with SUBSCRIBE as subject.

 

Eric Grathwol

Loan Officer

 

Priority 1st Mortgage

3300 Douglas Blvd. Ste. 270

Roseville, CA 95661

direct: 916-223-4235

office: 866-771-9000

fax: 916-771-9099

www.priority1stmortgage.com

egrathwol@priority1stmortgage.com