Interest Rates

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Uh... yeah... from Big Ben himself...





Federal Reserve Chairman Ben Bernanke today acknowledged that Federal Reserve rate cuts have not had as big an effect on long-term mortgage rates as some might have hoped.

<p> 'We have a problem, which is that the spreads between the Treasury rates and lending rates are widening, and our policy is essentially, in some cases just offsetting the widening of the spreads, which are associated with signs of illiquidity,' Bernanke told the House Financial Services Committee.</p>

<p> 'So in that particular area, it's been more difficult to lower long-term mortgage rates through Fed action,' he said.</p>
 
graphrix, I can't link the article because it requires a username/password to access the site. I can send the article to your private email.
 
I don't know how to edit the post to make the scrolling parts be the graphs they're meant to be. I'll just remove the post (if I can) for now.
 
<p>SGC,</p>

<p>This board doesn't handle graphs very well. Try clicking on the source button before you c&p the tables, then click it again before adding the comment. If that doesn't help, you'll have to edit them by hand in html code.</p>
 
At Calculated Risk, some treasury thingys called TIPS are trading at negative interest rates. Don't know the maturities. Don't understand this well at all; but is the equivalent of mattress-stuffing, apparently, and being done, allegedly, by the big guys.
 
LawyerLiz, TIPS = Treasury Inflation Protected Securities. Essentially they are bonds from the Treasury with interest rates tied to the CPI. The statement about negative interests rates is based on the widespread belief that the CPI under reports the true inflation rate.
 
<a href="http://www.mortgagenewsdaily.com/2282008_Mortgage_Rates_Fed.asp">Mortgage rates and Fed rate cuts</a>.





<p><em><strong>Mortgage rates high</strong>? <a href="http://www.mortgagenewsdaily.com/mortgage_rates/charts.asp">Historically</a> we're quite low! Perhaps it is referencing the fact that mortgage rates haven't fallen as much as they "should have" considering the yield on the 10 year treasury, which even mortgage brokers believe (<strong>incorrectly</strong>) is a good indicator of interest rate direction.</em></p>

<p><em>Yes, the spreads between mortgage rates and treasury rates are wider than they've been in the past. Maybe that has something to do with the perception of quality decreasing in the wake of a massive mortgage crisis! (understatement) <strong>Mortgage yields have always been higher than treasury yields in order to compensate investors for the extra risk</strong>. </em></p>

<em> So don't be surprised when the Fed cuts rates and mortgages hold steady. As long as inflation is a concern and the <strong>quality of MBS as an investment is in question, there will not be a direct relationship.





</strong></em>And, I dug up some old rate sheets, to compare them to the current rates. On March 7th 2007, the 10 year was at 4.53%, and Fannie Mae conforming rates were at 5.75% at par, a 122 BPS spread. On Feb. 28th 2008, the 10 year was at 3.53%, and Fannie Mae conforming rates were at 5.75% at par, a 222 BPS spread. If mortgage rates followed the 10 year, then in theory, conforming rates should be 4.75%, not 5.75%. If you want to watch the 10 year, then go ahead, as long as you don't care about a 100 BPS discrepancy.
 
<p><strong>Fed Rate Cuts Do Not Equal Lower Mortgage Rates</strong></p>




<em>By Barry Habib, contributing editor to CNBC</em>

<p>


So the Federal Reserve cut rates again. Many mortgage applicants are calling their mortgage representative and expecting a lower interest rate. Others who have been waiting to refinance are puzzled as to why mortgage rates have not moved lower during recent 5 Fed rate cuts. In fact mortgage rates are now higher than they were before the Fed began cutting rates by in January. This is difficult to explain to many consumers who have watched a 2.5% reduction by the Fed with no benefit in mortgage rates.</p>

<p>Is a Fed rate cut really good news for mortgage rates? The facts may be surprising. The Fed can only control the Discount Rate and the Fed Funds Rate. This is very different from mortgage rates. A mortgage rate can be in effect for 30-years, a rate that is set by the Fed can change from one day to another.</p>

<p>Another common mistake is in thinking that 30-year Treasury bonds or 10-year Treasury notes are directly pegged to mortgage rates.</p>

<p>Those are government securities that are backed by the full faith and credit of the U.S. government and have no direct effect on mortgage rates.</p>

<p>So what are mortgage rates based on? As it turns out the answer is mortgage-backed bonds known as Mortgage Backed Securities (MBS). Bonds issued by Fannie Mae and Freddie Mac (MBS) and the trading performance of those bonds will determine the direction of mortgage rates. Finding the catalyst that causes mortgage bonds to move will give you the keys to finding out what makes mortgage rates rise or fall.</p>

<p>We know that inflation will always be a negative for any long-term bond because it eats away at the future returns. Since the bond will pay a set amount over a long period of time, that amount will be less valuable if inflation is high. Over the past several years, one catalyst that seems to be working in the opposite direction of MBS prices is the Nasdaq and broader stock market.</p>

<p>As bond prices rise, interest rates fall. As bond prices fall, interest rates rise. The charts accompanying this article show the Nasdaq Composite Index and the Fannie Mae 6.5% mortgage bond tend to follow paths that are almost mirror images of each other. The consistency of this behavior is astounding.</p>

<p>As the Nasdaq moves higher, bond prices move lower causing interest rates to rise. As the Nasdaq declines, mortgage bonds benefit, causing mortgage rates to fall. Additionally, and unlike common opinion, Fed rate cuts have had virtually no direct effect on mortgage rates. Moreover, it appears that since Fed rate cuts act to stimulate the Nasdaq, they have a negative effect on mortgage rates.</p>

<p><img src="http://img801.mytextgraphics.com/photolava/2008/03/04/barry1-fdev93ch.gif" alt="" />


</p>

<p>The bottom line is that it appears mortgage rates will get better if the Nasdaq sells off and will get worse if the Nasdaq rallies. So it is not necessarily what the Fed does that affects mortgage rates, it's how the Nasdaq and broader stock market interprets the Fed's action that will ultimately influence the direction of mortgage rates. This is because money managers and mutual fund companies typically keep funds in either stocks or bonds with very little in cash. If stocks are in favor, money is pulled from bonds, causing bond prices to drop and interest rates to rise. When stocks are being sold off, the money is then parked into bonds, which improves bond prices and causes interest rates to decline.</p>

<p>On the chart of the Nasdaq Composite Index above, notice how the price movement higher on the Nasdaq seems to correlate to mortgage bond price deterioration (shown below) and vice versa. Once again, lower bond prices translate to higher mortgage rates and higher mortgage bond prices mean lower mortgage rates.</p>

<p>The chart below shows how the Fannie Mae 6.5% mortgage bond has performed during the same time period. The green circles indicate Fed rate cuts and the area circled in red shows when the Fed hiked rates.</p>

<p><img src="http://img701.mytextgraphics.com/photolava/2008/03/04/barry2-49q4pp8du.gif" alt="" />


</p>

<p>A closer look at the 5 rate cuts by the Fed this year (see chart below) shows that mortgage bond prices deteriorated after each Fed rate cut. This means that mortgage rates rose after the Fed had cut rates while many consumers were expecting their mortgage rates to decline. Worse yet are the consumers who missed the opportunity to obtain a lower rate because they mistakenly waited for the anticipated Fed action to cut short-term rates, thinking that longer-term mortgage rates would decline as a result.</p>

<p><img src="http://img109.mytextgraphics.com/photolava/2008/03/04/barry3-49q4qor4v.gif" alt="" />


</p>

<p>Predicting the future is tough, so nothing is written in stone. Keep an eye on the Nasdaq, and keep in mind that the best rates may be behind us. But, mortgage rates are still low and could have some quick dips so make the most of them while they last.</p>
 
<p>"Others who have been waiting to refinance are puzzled as to why mortgage rates have not moved lower during recent 5 Fed rate cuts. In fact mortgage rates are now higher than they were before the Fed began cutting rates by in January."</p>

<p>I am so tired of people talking about mortgage rates in general and only meaning long-rate mortgage products such as the 30-year and 15-year fixed. 1-year ARMs dropped significantly when the Fed went nuts with rate reductions in January and it is still hovering around that same level. 1-year ARMs were running 5.75-6.0 back in August when the Fed starting cutting. Now they are down below 5%. Last time I checked, a 1-year ARM was a mortgage so its rate would be called a "mortgage rate"...</p>

<p>If ARMs weren't a popular mortgage product, people wouldn't be facing reset problems and this housing collapse could/would look very different. Why in the world do people make generalized references to "mortgage rates" and exclude an entire class of mortgage loan products (1/3/5-year ARMs) from their analysis? </p>
 
"Why in the world do people make generalized references to "mortgage rates" and exclude an entire class of mortgage loan products (1/3/5-year ARMs) from their analysis? "



I'm guessing it's because the vast majority make use of the longer term fixed rates mortgage products?



I agree that it would be nice to see the rate comparisons between ARMs and various other rates.
 
<p><strong>Why Fed Rate Cuts Do Not Equal Lower Mortgage Rates</strong></p>

<strong>By Barry Habib, CEO</strong>

<p> </p>

<p><strong>Last Updated: February 28, 2008</strong></p>

<p>The Federal Reserve has been on a rate cutting spree once more. Many mortgage applicants are calling their mortgage representative and expecting a lower interest rate. Others who have been waiting to refinance are puzzled as to why mortgage rates have not moved lower during the recent five Fed rate cuts. This is difficult to explain to consumers who have watched a 2.25% reduction by the Fed with very little benefit in mortgage rates.</p>

<p>Is a Fed rate cut really good news for mortgage rates? The facts may be surprising. The Fed can only control the Discount Rate and the Fed Funds Rate. This is very different from mortgage rates. A mortgage rate can be in effect for 30-years while a rate set by the Fed can change from one day to another.</p>

<p>It is often said history repeats itself. And if history is any teacher, we can learn from what happened to mortgage rates the last time the Federal Reserve was in a rate-cutting cycle.</p>

<p>The last time the Fed was in a lengthy rate cutting cycle was back in 2001 from January 3, 2001 to December 11, 2001. In the span of 11 months, they cut the Fed Funds rate 11 times with eight of those cuts by 50bp. This resulted in a total of 475bp or 4.75% in short-term interest rate cuts taking the Fed Funds Rate from 6.00% down to 1.75%. Now most uninformed people would naturally think because the Fed cut rates by so much during this time that mortgage rates would follow suit and trend lower as well. Not so. Mortgage rates actually moved higher during this time of significant rate cuts because inflation, the arch enemy of bonds, gradually rose.</p>

<p>Now let’s take a look at what happened with the Fed’s most recent cutting cycle, the first since 2001. On September 18, 2007 the Fed cut the Fed Funds Rate by 50bp. The mortgage bond market briefly enjoyed a “knee-jerk” reaction to the Fed move by closing higher that day, but lost 140bp over the following two sessions. Then on October 31, 2007 the Fed lowered the Fed Funds rate by 25bp. The mortgage bond market responded by losing 78bp over the following five trading days. On December 11, 2007 the Fed once again lowered rates by 25bp and the mortgage bond market lost 88bp in the next three days. So far this year, the Fed delivered a surprise 75bp rate cut on January 22, 2008 and mortgage bonds lost a whopping 144bp in just 2 days. Eight days later and as widely expected, the Fed cut rates by 50bp. Within 13 days from that 50bp cut, mortgage bonds lost 269bp.</p>

<p>Please refer to the Table below.</p>

<p><img src="http://img802.mytextgraphics.com/photolava/2008/03/04/barry4-49q55fhpu.jpeg" alt="" />


</p>
 
about housing price decline and long-term mortage rate increase resulting in similar monthly cashflow, thereby removing the advantage of waiting to buy....



maybe my thinking is wrong..



but.... if i buy a cheaper house, my tax is cheaper (would housing insurance be cheaper?), i can deduct the mortage payments, and if the mortage rate drop in the future i can refinance, and if the house value increase say 20 years down the line, i won't have to pay the remaining 10 years of mortage with high mortgage rate. Isn't it still better to wait for the price drop?



note, i am assuming the cashflow with buying a house is similar to renting.



I generally think buying a house is a good idea, assuming home price don't deflate, when you sell your house you get your 'rent' money back compare to if you were renting. Yes, i also know about if the market is better you can inviest the money instead of buying blah blah blah. But for someone who is not a savvy investor, whose investing is bank CDs, buying is a good way to build equity.



I think great debate generate of NOT buying a house becuase of this housing bubble, different theory/methods were use to demonstrate to others that there is a bubble.... anyways....
 
<p>RG,</p>

<p>Buying to build equity depends on the market both when you buy and when you sell. It has the potential to build equity, but is not guaranteed... to the chagrin of a great many current homeowners. But buying has a huge long term advantage over renting: fixed cost for housing. Rents rise as leases expire, mortgage payments on a fixed rate loan do not. Tax deductions go a long way to offset maintenance costs, the existence of the loan itself goes a long way towards reducing interest costs on other personal loans, and over a long span the percentage of your income spent on housing drops compared to renting over the same time span. I knew a couple that purchased a house in a nice tract in Orange in 1964 using a 30-yr fixed loan. While I was paying $700 rent in 1993 for a one-bedroom box, they were paying less than $100 a month. In 1964 that was a big payment, in 1993 I would have run the length of Beach Blvd wearing nothing but a sock to have that kind of housing cost.</p>

<p>In other words, the monthly cash-flow equation only gets better over time when you own.</p>
 
From the Federal reserve Bank of San Francisco



http://www.frbsf.org/education/activities/drecon/2002/0206.html Look at chart 2 and the explanation.



They have a much more in depth article which, I will look for that explains this in greater detail.



There is no fixed spread between the ten year note and the 30 year fixed mortgage. The term premium will expand and shrink based on many factors.



And More,



http://library.hsh.com/read_article-hsh.asp?row_id=85



Mortgages are priced for sale to attract investors who seek fixed income investments. There are many kinds of bonds available, and mortgage rates (yields) rise and fall with those competing investments to a greater or lesser degree.



But how to price them? Fixed mortgage rates, like other bonds, track US Treasury bonds quite well. Since Treasury obligations are backed by the "full faith and credit" of the United States, they are the benchmark for many other bonds.



There is no specific "lockstep" relationship between Treasuries of any term and fixed mortgage rates. Given enough data points, a relationship could be established against many different financial instruments. However, as a 30-year fixed rate mortgage rarely lasts longer than about 10 years before being paid off or refinanced, the closest instrument which has similar (though lesser) risks is the ten-year Treasury Constant Maturity. Because of this, the ten-year year Treasury makes an excellent tool to track mortgage rates.



Here's an oversimplification of the relationships of mortgages to Treasuries:



As we mentioned, intermediate term bonds and long-term mortgages (more properly, Mortgage-Backed Securities, or MBS) compete for the same fixed-income investor dollar. Treasury issues are 100% guaranteed to be repaid, but mortgages are not; therefore mortgages carry more risk of default or early repayment, which could potentially disturb the return on the investment. Therefore, mortgage rates must be priced higher to compensate for that risk.



But how much higher are mortgages priced? In a normal market, the average "spread" or markup above the 100% secured Treasury is about 170 basis points, or 1.7%. That markup -- the spread relationship -- widens and contracts with a range of market conditions, investor appetites and supply of available product -- as well as the presence of competing investment opportunities, like corporate bonds or domestic (or foreign) equity markets. Professional money managers, and investment and retirement funds constantly strive to obtain high-yielding instruments at a given level of risk. Money shuffles from place to place in search of this -- from bond to bond, and market to market.



As we mentioned, the relationship isn't a fixed one, but one that changes with market conditions. Recently, for example, ten-year Treasuries rose from a low of 4.22% to 5.01% over a three-week period -- about 80 basis points, altogether. At the same time, the average 30-year fixed mortgage rate rose from about 6.59% to 7.21%, a rise of only 62 basis points. Over time, there are any number of examples where Treasury yields have risen faster than mortgage rates, as well as times when mortgage rates rose faster than Treasury yields. Consequently, the spread between the two expands and narrows appreciably, which is why you can't simply take the ten-year yield, add 1.7% to it and know exactly what today's rate is.







And More,



http://www.investopedia.com/articles/pf/07/mortgage_rate.asp



Fixed Interest Rate Mortgages

The interest rate on a fixed-rate mortgage is fixed for the life of the mortgage. However, on average, 30-year fixed-rate mortgages have a lifespan of only about seven years. This is because homeowners frequently move or refinance their mortgages. (To read more about refinancing your mortgage, see The True Economics Of Refinancing A Mortgage and Mortgages: The ABCs Of Refinancing.)



Mortgage-backed security prices are highly correlated with the prices of U.S. Treasury bonds. This means the price of a mortgage-backed security backed by 30-year mortgages will move with the price of the U.S. Treasury five-year note or the U.S. Treasury 10-year bond based on a financial principal known as duration. (In practice, a 30-year mortgage's duration is closer to the five-year note, but the market tends to use the 10-year bond as a benchmark.) This also means that the interest rate on 30-year fixed-rate mortgages offered to consumers should move up or down with the yield of the U.S. Treasury 10-year bond. (A bond's yield is a function of its coupon rate and price.)



More from the Federal Reserve,



http://stlouisfed.org/publications/re/2004/b/pages/fed_said.html



Mortgage interest rates dipped to record lows early last summer, providing homeowners with a refinancing bonanza. This decline in mortgage interest rates mirrored a fall in the 10-year Treasury bond yield (the interest rate on the bond), as shown in the top panel of Figure 1. In fact?as shown in the bottom panel of Figure 1?mortgage interest rates almost always mirror the yields on long-term Treasury bonds because they respond to the same forces.
 
<em>"Treasury issues are 100% guaranteed to be repaid, but mortgages are not; therefore mortgages carry more risk of default or early repayment, which could potentially disturb the return on the investment. Therefore, mortgage rates must be priced higher to compensate for that risk."





</em>And... when that risk for mortgages shoots through the roof, then this means the spread will be huge. A 100 to 200 BPS difference in spread, and trying to say that it follows it is nuts. Even though the 10 year hit 3.50% today, but a conforming mortgage rate was 6.125%, a 263 BPS spread. Yeah... go ahead and believe the Fed written articles, and follow the 10 year. That would be smart, especially if you are like me, and can remember when the risk for mortgages was a lot lower, and the last time the 10 year was at 3.50%, the 30 year conforming was at 4.625% at par.





Anyone who constantly and consistently watches the two would know, they do NOT follow each other. If you take today for an example, the 10 year rate was only up 3 BPS, and the 30 year mortgage rate was up from when I posted 3 days ago. The spread was 222 BPS 3 days ago and now 255 BPS at the close for 10 year, a 33 BPS difference.





Seriously, if you follow the 10 year for mortgage rates, then you can be burned.
 
<p><em>"Yeah... go ahead and believe the Fed written articles"</em></p>

<p>It never ceases to amaze me that folks quote the Fed, either a Fed prez of the chairman. If you read the Fed's writings over the years, you realize they are wrong about 90% of the time. I am not exaggerating.</p>
 
Hat tip to <a href="http://www.housingwire.com/2008/03/05/agency-mbs-spreads-reach-two-decade-high/">Paul over at Housingwire</a> for this <a href="http://www.bloomberg.com/apps/news?pid=20601087&sid=apo02K8ZFgA8&refer=home">Bloomberg article</a>...





<p><strong>Agency Mortgage-Backed Bond Spreads Reach Highest Since 1986</strong></p>

By Jody Shenn

<p><em>March 5 (Bloomberg) -- The extra yield that investors demand to own agency mortgage-backed securities over 10-year U.S. Treasuries reached the highest since 1986, boosting the cost of loans for homebuyers considered the least likely to default.</em></p>

<p><em>The difference in yields on the Bloomberg index for <a href="http://www.bloomberg.com/apps/quote?ticker=FNM%3AUS" onmouseover="return escape( popwQuoteShort( this, 'FNM:US' ))">Fannie Mae</a>'s current-coupon, 30-year fixed-rate mortgage bonds and 10- year government notes widened about 5 basis points, to 208 basis points, or 74 basis points higher than Jan. 15. The spread helps determine the interest rate homeowners pay on new prime mortgages of $417,000 or less. A basis point is 0.01 percentage point.</em></p>

<p><em>The spread for Fannie Mae's current-coupon securities over the average of yields on 5-year and 10-year Treasuries, a benchmark closer to their expected lives, was already the widest since 1986, according to Bloomberg data. <strong>That spread today rose to 262 basis points from 170 basis points on Jan. 15, the recent low.</strong> The similar spread for bonds backed by the U.S. government is also at the highest since the 1980s, at 227 basis points.</em></p>

<p><em>Average 30-year fixed <strong>mortgage rates climbed last week to 6.24 percent</strong>, from 6.17 percent in the last week of 2007, according to a <a onmouseover="return escape( popwQuoteShort( this, 'NMCMFUS:IND' ))" href="http://www.bloomberg.com/apps/quote?ticker=NMCMFUS%3AIND">survey</a> by Freddie Mac. Yields on benchmark <strong>10-year Treasuries last week fell to 3.51 percent</strong>, from 4.03 percent on Dec. 31. The Federal Reserve has cut its benchmark borrowing rate by 125 basis points so far this year. </em></p>

<p><em>The so-called option-adjusted spread of Fannie Mae's current-coupon securities matched the highest in at least 11 years yesterday, rising 18 basis points to 134 points, according to Merrill Lynch & Co. index <a onmouseover="return escape( popwQuoteShort( this, 'MNLC:IND' ))" href="http://www.bloomberg.com/apps/quote?ticker=MNLC%3AIND">data</a>. That spread, which matches the spread on Feb. 21, is up from 81 basis points on Feb. 1.


</em></p>

<p><em>Auction-Rate Failures </em></p>

<p><em>The spread between Fannie Mae's securities and 10-year Treasuries today surpassed a level last seen in April 2000. Spreads on non-agency mortgage bonds, commercial-mortgage bonds, and most types of asset-backed securities are at record highs, or near ones hit last month. </em></p>

<p><em>Spreads have been widening as banks remain limited in their ability to add new assets, as evidenced by failures in the $330 billion market for auction-rate bonds used by U.S. municipal borrowers. Almost 70 percent of the periodic auctions failed this week. Yields on the debt averaged 6.52 percent as of Feb. 28, up from 3.63 percent before demand evaporated in January.</em> </p>
 
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