In a widely anticipated move, the United States Treasury placed mortgage giants Fannie Mae and Freddie Mac in conservatorship this weekend, shoring up markets for the mortgage giants debt, but essentially canceling the value of those companies' stock. This move is seen as providing much-needed reassurance to mortgage investors that their investments will hold value.
Government Sponsored Entities (GSEs) Fannie and Freddie are integral to the mortgage and real estate markets, as they guarantee over $5 trillion in home mortgages, roughly half the US market. Recently, the cost of borrowing under a mortgage has increased dramatically in comparison to other types of debt as the ability of the GSEs to continue its guarantee has come into question. As a result, while rates on Treasury securities were declining recently, mortgage rates increased.
One economist predicted this could cause 30-year fixed mortgage rates to approach 5.5% based on current rates for other securities. Already this morning, most lenders decreased their mortgage rates by approximately 3/8%, opening the possibility of significant savings for many homebuyers. Existing homeowners could benefit as well, as lower rates would permit troubled homeowners to refinance into less costly mortgages.
Mortgage risk had been rising over recent weeks, with 30-year mortgage rates rising as high as 2.7% over 10-year treasury rates in the latest week. That is 1.2% higher than the average Mortgage-Treasury Spread in the 1st half of 2007, prior to the collapse of the mortgage market, and represents a new high in the current cycle.
The Mortgage - Treasury Spread is a measure of relative risk between home mortgages and treasury debt. Treasury debt is considered practically riskless, because it is backed by the full faith and credit of the United States Government. Prior to this weekend's move, GSE securities did not enjoy the same support.
As a result of this government intervention, expect to see the Mortgage-Treasury Spread decline significantly in the week ending September 12th, likely to somewhere in the range of 2.2%. If Treasury yields hold their current level, this would translate into mortgage rates dropping to approximately 5.75%-5.875% for 30-year fixed loans by week's end.
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That's a very good question- one that time will answer. In the short term the market seems to like the move so far. I've got my fingers crossed.