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Your Interest Rate Update

February 4, 2009

As Yogi Berra said, "You've got to be very careful if you don't know where you're going, because you might not get there."

How we got here, is now pretty obvious. Whether by our government, corporations, or individuals, there was a lot of living beyond our means, without any rainy day contingencies.

That's not to say everyone was. But, whether you're well positioned, have lost everything, or somewhere in between, we'll all share in righting the ship. And, for a lot of folks - even those who got hammered purely by bad timing - there are still some great opportunities.

But, we definitely need to have a plan and a goal in mind of where we'd like to be and how we'd like to get there. And although I have a lot of confidence in the heads of our Federal Reserve, Treasury (under both Obama and Bush) and the slew of economic heavyweights advising both administrations, it's our congress that worries me. To hear the drivel (political posturing) that spews from both sides of the isle - from people who should know better, like Barney Frank, chairman of the House Financial Services Committee - is pretty scary. Nevertheless, we will get through this economic turmoil. Again, it's not all doom and gloom.

For anyone buying a home, for example, 30 year fixed rates are finding a ceiling - yes, a ceiling - of 5.5%. That's unbelievable.

It's still mind-boggling that I'm now hearing "What, 5.5%? I want 4.5%." But, that too is relative. If you're considering a refinance, and you're already at 5.5%, then maybe 4.5% is what you need to hope for to have it pencil out, based on your scenario. But if you're considering buying a home, money has never been cheaper.

And, these historically low rates may or may not get any better.

My latest prediction is that much like last year, when mortgage rates hovered around 6% with three distinct, and short-lived, dips down into the 5.25% to 5.5% range, I think this year we're likely to hover around 5%, with occasional dips down to the 4.5% range.

So, if you're considering whether a refinance makes sense, review your math so you know where your value threshold lies, and can move quickly, when that window of opportunity opens. Then, if we do better than that value threshold, that's a bonus. But in the same breath, you won't risk missing the opportunity all together holding out for the "Holy Grail" of whatever super low rate you're hoping materializes.

On the other hand, if you're considering buying, the most important criteria is always buying a home, second home, or investment property that meets your needs/goals and fits your budget. Since we can't control the housing and interest rate markets, we can't worry about them. Hopefully your timing of finding a home coincides with low rates, but remember, even at 6% or 6.5%, that's great, and very cheap 30yr fixed money.

But, what about that 4.5%? Or... even 4% you might be hearing about now?

It's true, there's talk about trying to get mortgage rates down to 4% now. I didn't really think they'd be driven down to 4.5%, but we hit that mark for a day in December, and bounced in the 4.625% range for a while.

But 4%? Really? Why?

According to Nightly Business Report, the authors of the plan to push rates to 4% figure roughly 40 million home owners would qualify, saving roughly $420/month. And, the plan's architects reckon that the government could even come out ahead because they can now borrow at 2.5%, earning a cool 1.5% spread. However, independent estimates say it could cost $20 billion a year, or more.

Furthermore, if we dive into the math, I think we'll find it could be flawed.

In order to achieve a $420/mo savings, they must be figuring that the average loan size is roughly $290k with an average interest rate of 6%. I'll actually buy that as credible assumptions. But, their figure of 40 million households qualifying - and using this cheap money - seems a little bit optimistic.

There are roughly 80 million homeowners in the US. I don't know the exact number of homes with mortgages, but...it's probably less than the full 80 million homeowners. Let's call it 80 million mortgagees, for the sake of simple math. Cut that down by those with negative equity (ie: those who are upside down and can't refinance) which Nouriel Roubini's RGE Monitor pegs around 12 million to 15 million, and you're left with 65 million homeowners with mortgages. Cut that further by those that could qualify (have the income, assets and credit required) and the number is likely lower still. Nevertheless, the architects of the 4% rate plan figure roughly 40 million households will qualify? Really? That would be a HUGE win, if 50% to 60%+ of all mortagees could qualify for that 4%, and save $420/mo. Might be a pipe dream...

Another reason I'm not banking on seeing 4% mortgage rates is that although the Fed is buying Mortgage Backed Securities, they're buying those securities in the 5% to 5.5% range, which translates into mortgage rates of 6% to 6.5%. When the Fed buys those MBS, they're buying from Fannie and Freddie. That frees up Fannie/Freddie capital to go buy more MBS from originating banks, in turn creating more capital to generate more loans. But, what's the incentive for Fannie/Freddie and/or originating lenders to lower their mortgage rates? Oh yeah...there isn't one. But, I'll touch on that below.

Meanwhile, the Fed is buying at that level because they know that mortgages in the 6% to 6.5% range are most likely going to be those that get refinanced with rates around 5% to 5.5% - where mortgage rates are now. So, in effect, the Fed is creatively freeing up capital for Fannie/Freddie and other originating lenders, at the same time, the Fed is making sure they're buying in a market with a short horizon to maturity/payoff, so they're not over extending themselves (as much as they otherwise would be).

Now, back to why a bank might not lower rates down to 4%... as I've been saying for a while, what's the incentive for banks/investors to lower rates beyond the 5% to 5.5% range they're in now? There isn't one. Those are already incredible mortgage rates. And, these banks/investors are trying to claw their way back to some semblance of solvency as quickly as they can. Since they dug this hole with our backs, you can bet they'll climb out on them too. The only way I believe mortgage rates will get that low is if the government explicitly mandates it. That too could backfire in the long run, if inflation were to rear its head. In an inflationary environment, anyone lending money at 4% will lose out quickly, regardless of their borrowing costs, as inflation erodes their return on investment.

And, that brings me to my last point about why rates are hovering in the 5% to 5.5% range, despite Herculean efforts to drive them lower: Inflation. Yes folks, even though we'll likely be more concerned about deflation in the near future than inflation, this too ties back to uncertainty.

The amount of economic stimulus, tax cuts and quantitative easing/printing money is unprecedented. Although Bernanke et al suppose that the mounting massive deflationary pressures will keep a lid on any inflation for some time, regardless of their fiscal and monetary policy, the markets are going to hedge.

If the Feds overshoot, we could find ourselves humming out of this economic downturn at quite a clip, which, some people worry, could cause a period of hyper inflation. Or worse yet, maybe the economy continues to languish AND we have inflation. Since, as you know from reading my musings, inflation is the arch enemy of mortgage rates because it erodes the long term return an investor gets on their money, to counter that possibility, those lenders/investors may hold rates higher than they otherwise would.

But.... that's just my opinion based on what I read and hear. As I said, I didn't think rates would hit 4.5%, and I was wrong. They did. But, the point remains the same. If you're considering refinancing, you have to know where your value threshold lies. Anything beyond that point is gravy. And remember, that while you wait, you might be paying more than you would otherwise need to, too.

If you're looking to buy, then rate movements should not be driving your decision process at all. Finding the right home for your needs and budget is most important. Catching historically low rates is a bonus. And remember, a 1% change in rate equates to about a 10% change in purchasing power. In most cases, that's not enough to drastically change what you'd buy. And, there's definitely still the potential to see continued erosion with home values. So, having a long-term horizon on ownership remains important.

Lastly, this is an incredibly volatile and dynamic market. What exists today could be gone tomorrow, or...may be even better. As we twist and turn, I'll do my best to keep you posted and give you information so you can make educated decisions about what best fits your needs and goals.

As always, call or email if you or anyone you know has questions about financing residential or commercial real estate. Here are your rates for this week. Cheers! E

Conforming	Rates	Points	APR	Loan Amt	Payment
40 yr fixed mortgage	8.000%	1	8.240%	$300,000.00	$ 2,086
30 yr fixed mortgage	5.000%	1	5.240%	$300,000.00	$ 1,610
15 yr fixed mortgage	4.625%	1	4.825%	$300,000.00	$ 2,314
3/1 ARM	4.750%	1	4.940%	$300,000.00	$ 1,565
5/1 ARM	5.000%	1	5.210%	$300,000.00	$ 1,610
5/1 ARM Int Only	5.250%	1	5.510%	$300,000.00	$ 1,313
Jumbo (ask me about the new limit, per your zip code)
40yr fixed mortgage	n/a	1	#VALUE!	$550,000.00	#VALUE!
30 yr fixed mortgage	7.625%	2.25	8.885%	$550,000.00	$ 3,893
15 yr fixed mortgage	6.625%	1	6.880%	$550,000.00	$ 4,829
3/1 ARM	5.750%	1	5.930%	$550,000.00	$ 3,210
5/1 ARM	6.875%	1	7.095%	$550,000.00	$ 3,613
5/1 ARM Int Only	7.125%	1	7.375%	$550,000.00	$ 3,266
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.