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Mortgage Rates in 2010


Monday, February 1st, 2010

To understand mortgage rates and where they may be headed in 2010 it may be useful to discuss how mortgages are financed. Mortgages are “originated” by mortgage brokers, mortgage bankers, commercial banks, savings and loans and others. These closed mortgages are then “pooled” into groups. Various investors buy an interest in a portion of each pool. Typically the mortgages making up the pool are then purchased by a government entity (like Fannie Mae or Freddie Mac aka Government Sponsored Entities or GSE’s). The GSE then guaranty’s the investor a return on the mortgages in the pool. These instruments are called Mortgage Backed Securities or MBS. Note that we purposely simplified the explanation but hopefully you get the point.

 

The Federal Reserve has been supporting the mortgage market for some months now and that effort is slowly coming to an end. The program started back in March of 2009 when the Fed announced its intention to buy up to $1.25 TRILLION in MBS and $300 billion in long term treasury bonds to help keep rates low. The Treasury bond program ended in October and the MBS program is scheduled to end in March. So far the Fed so far has made it clear it will not be extended. The question is what happens next with mortgage rates?

 

In a normal world private investors would step up and buy MBS but we live in a new “normal” world. What is likely is that to attract investors the returns (yields) will have to be higher to allow for the risk these private investors will be taking. This risk allowance means higher rates. The risk factor is important because the rating agencies (Standard & Poor’s, Fitch and others) have not done a really good job of measuring the risk of previous MBS issuances. If private investors don’t participate, or participate in a limited way, that would leave the government thru the GSE’s (or whatever they morph into) and FHA as the major sources of mortgage financing in the U.S..

 

It would appear that our historic low rate world is slowly coming to an end. This week retail mortgage rates pushed a little deeper into the 5% range as the market responded to less support from the Federal Reserve. The 10 year Treasury yield is currently in the mid 3.60’s. It wasn’t very long ago that the 10 year yield was well below 3.50%. A well known Morgan Stanley analyst has said that the 10 year Treasury yield could go as high as 5.50% in 2010 (the yield was 3.84% at the end of 2009) which could push mortgage rates to north of 7%! Remember, a general rule is that when the economic news is good (or perceived to be good) bond yields will move up normally taking mortgage rates with them but when the news is not so good the reverse takes place. If you want to watch an index that is a good indicator of the trend in mortgage rates watch the 10 year Treasury Yield. 

 

In closing, in a statement after its meeting last week the Federal Reserve made it a point to reiterate that its MBS program (to support keeping mortgage rates low) will end as scheduled on March 31, 2010. There had been some chatter in the market that the Fed would extend the program and that does not seem to be the case. This came after Moody’s comments on Monday saying the sovereign debt risk is rising globally and especially in the U.S. They predicted long term rates will increase globally in 2010 and may increase more rapidly than expected. Moody’s added that the U.S. will have to put in place a “credible plan to address the problems of large debt”. Absent a strong policy response the U.S. triple A credit rating could be under threat in two to three years. The bottom line is that it is not a question of when rates increase it is only a matter of when, how much and for how long.

 

 

 

 

 

 



Article by Burt Carlson

The views expressed are the subjective opinion of the article's author and not of FinancialAdvisory.com



Tags: fannie mae , federal reserve , freddie mac , mortgage rates