How Mortgage Loan Rates Are Determined

It is a common misperception by the general public that fixed rate mortgage interest is tied directly to Federal Reserve interest rate movement. On the contrary, the determinant is the performance of mortgage backed securities (MBS), most of which are issued by Ginnie Mae, Fannie Mae and Freddie Mac.

What does that mean in layman's terms? MBS are securities traded on the open stock market and are backed by assets, like real estate. When you obtain a home loan, it is typically sold, pooled into a group of home loans as a securities package called MBS to be sold as securities to investors on the open stock market.

MBS are treated like bonds and are typically long-term, fixed-rate yield investments. Many compare the movement of MBS to that of 10-year Treasury Bonds. The higher the investor demand for MBS, the lower the yield for investors. If the demand for MBS increases, the price for MBS rises, MBS investors earn less yield and mortgage interest rates go down. Conversely, if the demand for MBS decreases, the cost for MBS notes goes down, investors earn more for their investment and mortgage interest rates go up.

On a more granular level, consider the inflation factor. Inflation directly impacts interest rates and the movement of MBS. Generally, as inflation rises, interest rates rise and the demand for MBS declines. On the other hand, as inflation goes down, interest rates decline and the demand for MBS increases. Looking at historical mortgage rates, the Carter Administration is a good example of this. Mortgage interest rates were in the double digits and climbed as high as 15 percent for real estate loans and 20 percent for commercial financing.

All factors aside, keep in mind that as investor demand increases for MBS, mortgage interest rates decrease. When MBS are on the decline, mortgage interest rates will be on the rise.

The external impacts to mortgage interest rates don't necessarily determine what your rate will be if or when you apply for a mortgage. The other determinant is your credit rating. Before applying for a mortgage, obtain a copy of your credit report. Check it for inaccuracies and inquiries. If you find anything inaccurate, or inquiries that were not approved by you, write a letter to the credit reporting user with factual information.

By law, you may obtain one free copy of your credit report annually from each of the major credit reporting agencies in the U.S. - Equifax, TransUnion and Experian. Your credit rating and payment history are critical factors determining what interest rate you will be issued for your mortgage. If both are stellar and MBS are in high demand, then you should be issued the lowest interest rate available on the market.

In summary, obtain copies of your credit report, and make sure it is accurate. Watch the movement of MBS on the stock market, and monitor current mortgage interest rates. When interest rates are at a comfortable low, apply for a mortgage. You should be able to obtain the best interest rates available on the market.

Ki works in the Austin real estate market. His website has a free search of Austin homes. Austin, Texas has a lot to offer any buyer. His site has statistics and commentary on Austin real estate along with graphs showing historical mortgage rates.