It's become common for the public to watch the actions of the Federal Reserve, thinking that their raising and lower of interest rates will have some affect on home mortgage rates.
The truth is that what the Fed does has very little impact on interest rates for most home mortgages. To understand what drives long-term mortgage interest rates you must understand where the money for home mortgages originates.
Home mortgage money comes primarily from investors. Once a mortgage is made to a homeowner it is sold on the "secondary" market and packaged with other mortgages becoming a "mortgage-backed security." This security is sold to investors who are looking for a predictable return on their money.
It is very common for pension funds and life insurance companies to invest in mortgage-backed securities. These securities have a credit rating based on the characteristics of the loans of which they are comprised. For instance, a security that is made up of high credit score, low loan-to-value loans would carry a very high rating for investors.
Mortgage-backed securities compete for investors dollars with the United States Treasury 10-year security or the 10 year T-Bill.
If the interest rate (yield rate) for the 10-year T-Bill rises, investors tend to move their money into that investment and away from MBS. If there is less money being pumped back into the mortgage market that tends to drive up interest rates. If the T-bill rate falls more investors turn to mortgage backed securities, pumping more money into the primary mortgage market and lowering long term interest rates.
When the Fed adjusts rates they are affecting the overnight rate they charge to their member banks. Changes in the short-term interest rate has an impact on interest rates for credit cards, automobile and boat loans, and home equity lines of credit. It can affect adjustable rate mortgages but does little to change the 30-year interest rate.
The recent "credit crunch" was caused mostly because investors stopped investing in the higher risk mortgage-backed securities. The bottom bar for investors' risk is rising every day which is why certain types of loans are increasingly become unavailable.
Keep in mind that there are two types of secondary lending markets, the private market and the government backed market. The government-backed market consists of Fannie Mae Freddie Mac.
Fannie Mae and Freddie Mac are shareholder-owned that have a federal charter and operate in America's secondary mortgage market to ensure that mortgage bankers and other lenders have enough funds to lend to home buyers at low rates.
While the private secondary market has tightened its credit requirements, the government backed side has actually loosened their requirements to help ease the crunch.
If you are working with a marginal buyer make sure your are working with a lender who can broker all types of loans.
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