Mortgage rates hit record low of 4.0% in mid 2011

The current low interest rates are truly remarkable. We are approaching the all-time recorded low from the early 1950s. The reason for the latest drop in interest rates is more market manipulation by the federal reserve. However, in a broader context, the continually dropping interest rates are a sign of monetary deflation caused by the ongoing write-offs of bank debt.low_interest_rates

It can be argued that today’s low interest rates are high in real terms. If you accept Mish’s definition of inflation as the expansion of money supply and credit, we are currently experiencing deflation caused by all the write downs. When you have deflation, even low interest rates are high relative to inflation.

Another way to look at the situation is from supply and demand. During the housing bubble, lenders created enormous amounts of debt as credit expansion was off the charts. Now we have a huge overhang of debt borrowers cannot support. As we all know, lenders are loathe to write this debt off, so we are left with a large supply of debt. With the return of prudent lending standards based on real incomes, demand for debt is very low. Large supply and low demand makes for lower prices. The price of debt is the interest rate, so lower prices on money mean lower interest rates.

However, you want to conceptualize or explain the low interest rates, it looks as if they will be with us for a while. As long as the economy remains weak, the federal reserve will want to keep interest rates low. Bernanke has publicly committed to keep rates at zero for two years, for whatever his word is worth.

Mortgage rates drop to once unthinkable lows at less than 4%

The Federal Reserve’s latest step to prop up the economy means that 30-year fixed-rate loans are available for less than 4%. But many people are in no position to buy or refinance a home.

By E. Scott Reckard, Los Angeles Times — September 23, 2011, 7:40 p.m.

The Federal Reserve’s latest effort to prop up the economy has dropped mortgages into once unthinkable territory, with 30-year fixed-rate loans available for less than 4% — a record low.

For people lucky enough to still have their credit ratings, bank accounts and home equity in good shape, the change means the opportunity to refinance at rates that once seemed unimaginable.

Note those exclusions carefully. It isn’t lucky people who have good credit and home equity. Mostly, it is savers and buyers from prior to 2002 who didn’t HELOC themselves into an underwater condition. The two groups benefiting most from the housing crash are prudent long-term homeowners (other than the loss of illusory equity) who can now refinance, and renters who have waited until prices and interest rates have fallen so low as to make properties affordable.

“I can remember when I thought 7% was a great loan,” said Roger Hornbaum, a retired city of Orange employee who has already refinanced his home on California’s Central Coast twice since purchasing it last year. “After the news this morning, maybe I’ll be getting another call from [my mortgage broker] and be trying it again sometime soon.”

Hornbaum’s broker, Jeff Lazerson of Laguna Niguel, said clients who pay closing costs and a 1% fee to him are refinancing into 30-year fixed-rate loans at 3.75%.

If Mr. Hornbaum has refinanced twice in the last year, it’s his mortgage broker who is really happy.

Of course, these days many people are in no position to buy or refinance a home. Many can’t meet the stringent lending standards that have prevailed since the housing bust and bank bailout, or they owe so much more than their house is worth that they can’t get a new loan at a better rate.

“The phone is ringing off the hook with people who want to refinance,” said loan officer Darin Hardin at Premier Mortgage Group in Ladera Ranch. “But the property values just aren’t there.”

The GSEs and FHA will allow underwater refinancing, but the terms aren’t very good. Again, the only real beneficiaries are long-term homeowners who didn’t HELOC themselves into an underwater position.

The record low rates are driven by the Fed’s announcement Wednesday that it would load up on purchases of long-term government bonds and mortgage securities. The extra demand was intended to drive down long-term interest rates, including those for home loans — and it worked.

The yield on the 10-year Treasury bond, which serves as a benchmark for fixed mortgages, had closed at 1.94% on Tuesday. By the end of the day Wednesday it had dropped to 1.86%, and it plummeted Thursday to 1.72%, setting a record low before rising again Friday to 1.83%.

For a 30-year fixed-rate mortgage, the typical rate for solid borrowers had been 4.09% last week and early this week, according to mortgage finance giant Freddie Mac. That’s within a whisker of the record low of 4.08% set in 1950 and 1951. The Fed’s action dropped it well into record territory.

Mortgage professionals said many companies were making loans slightly more expensive Friday because their loan pipelines were full of more refinance requests than they could easily handle.

Provident Funding, a lender that concentrates on borrowers with solid credit, said on its website Thursday that it could refinance a $300,000 loan on a $450,000 home in Los Angeles County at 3.875% and hand back $3,000 to the homeowner to help with closing costs. On Friday, the rebate on the same loan had dropped to $1,875.

But should the 10-year Treasury yield stay low, there appears to be room for mortgage rates to fall further, industry experts said.

Bernanke is buying 10-year Treasuries to have this effect. He wants to drive down mortgage interest rates to make houses more affordable and spark economic growth by reducing the mortgage burdens on those who qualify for refinancing.

Of course, the flipside to his policy is to reduce the profits accruing the member banks of the federal reserve he is trying to support. Banks were borrowing from him at zero percent, buying treasuries and earning a 3% riskless trade. As long rates go down, the profits from this trade are diminished, and banks will take longer to earn their way out of insolvency.

Refinancing mortgages at lower rates should help stimulate the economy by putting more spending money in borrowers’ pockets. Lowering the rate on a 30-year $350,000 mortgage to 4% from 5.5% would cut payments by about $3,800 a year.

Despite this fact, most borrowers are better off walking away from their massive debt loads they can never hope to repay.

Mindful of that fact, the Obama administration is trying to encourage greater use of a program that allows borrowers with loans backed by Freddie Mac and Fannie Mae to refinance up to 125% of their home’s value. The borrowers must have kept payments current on the underwater loans to qualify.

According to the Mortgage Bankers Assn., more than three-quarters of all home loan applications are now for refinances, although the volume is more of a boomlet than a boom. As rates sank toward 4% recently, borrowers were refinancing their loans at about half the pace seen in early 2009, when rates cracked the 5% barrier for the first time since 1956.

Each drop in rates prompts some refinancing, but the effect diminishes over time. When rates start going back up, all refinance activity will cease. Mortgage brokers and loan officers are hoping purchase activity picks up dramatically for them to make a living.

Jay Brinkmann, chief economist for the mortgage trade group, said the torpid housing market had produced few new purchase loans in recent years that would be good candidates for refinancing. What’s more, many people already have refinanced at rates less than 4.5% or simply never intend to replace an old loan.

“We’ll have to see what happens this week with the [latest big] rate drop,” Brinkmann said. “Until a few weeks ago, rates were just back to where they were this time last year.”

Meantime, mortgage borrowing to finance home purchases continues to lag despite the record low rates and home prices that in many areas are down more than 30% from their 2006 peaks. Plenty of families are too stressed out financially to buy. Others are leery that housing prices, which rose a bit in the second quarter, could crater again in a double-dip recession.

It’s difficult for most industry veterans to understand how low prices and low interest rates aren’t creating demand, but the reality is (1) prudent lending standards, (2) the plethora of foreclosures and short sales, and (3) high unemployment due to the weak economy has greatly diminished the buyer pool. Couple this diminished buyer pool with abundant supplies of distressed properties, and you have a recipe for lower prices and anemic sales volumes.

With a 1-year-old daughter, Joseph and Allison Dillard would normally be prime candidates to stop renting and buy a house.

He is a software engineer and she has a master’s degree in mathematics that should allow her to find work when their daughter is older. They have saved enough money for a 20% down payment on a single-family home in Mission Viejo or Laguna Hills, or perhaps a town home in Irvine, she said. And they have been pre-approved for a loan through Hardin, the Ladera Ranch mortgage banker.

Having looked at homes off and on since early this year, the Dillards stepped up the search this month after Joseph settled into a better new job at Google Inc.’s offices in Irvine. But they haven’t taken the plunge into ownership.

I know several of the software engineers at Google. I have been to their offices many times. The IHB has spread like a virus there. I wonder if his trepidation about buying is related to the IHB?

“The mortgage rates are so low but we’re worried, because we don’t know much further housing prices will fall,” said Allison, 30. “We’re trying to gauge the potential risks and benefits.”

In any case, the Dillards figure, the economy’s precarious state means they’ll have at least another year before interest rates rise significantly.

“It doesn’t seem like they’ll be jumping up any time soon,” she said. “So that’s not motivating us to do anything right away.”

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He is right. There is no urgency to jump into home ownership. Prices will be flat or down, interest rates will likely remain low, and supply will remain abundant. There are fewer reasons not to buy, but there are few compelling reasons to buy now — not that realtors will admit that.

Buying in a low interest rate environment

realtors generally tell people to buy when interest rates are low. As with most things realtors say, this isn’t usually a good idea. The reason is simple, when interest rates rise, money gets more expensive, and future buyers cannot borrow as much to bid up properties. Unless incomes are rising dramatically (or DTIs get out of control), rising interest rates make for tepid appreciation at best.

Ideally, buyers should wait for interest rates to rise so they can refinance into a lower rate and smaller payment in the future. I have endorsed this strategy on several occasions. However, in today’s market environment, this advice just doesn’t work. It may be seven to ten years before we see the peak of the next interest rate cycle. How long do you want to wait?

The days of making huge gains from appreciation are over. Real estate is going to struggle for years as the supply is absorbed and interest rates slowly rise of the bottom. Both of those factors are going to put pressure on prices for the foreseeable future.

In a low interest rate environment, the primary reason to buy is to save money over renting. This should be the focus of buying decisions for the next several years.

There are many reasons to buy real estate, and it won’t be a loser for those buying over the next several years, but buyers need to have realistic expectations. Buy because you want to provide a stable home for the family, but forget the nonsense about appreciation. It isn’t going to happen.