Mortgage rates are determined by the prices of mortgage bonds; this, we’ve covered before.  As bonds prices go up, bond rates come down.

And the price of a mortgage bond is a matter of Supply and Demand. 

The greater the demand for a bond, the higher its price.  High demand for bonds is one reason why mortgage rates remained relatively low for the period spanning the last few years. 

That period may be ending soon.

In August 2007, for the first time since 1998, foreign nations sold more long-term U.S. securities in a month than they bought, thereby increasing the market supply.  This happened for a number of reasons including:

• The Federal Reserve lowered the Fed Funds Rate
• Fear of a U.S. credit market collapse
• General uncertainty about the strength of the U.S. economy

When the supply of securities outweighs its demand, there is a downward pressure on the price of that security.  This is one reason why mortgage rates trended higher in August and September; the excess supply of mortgage bonds pushed mortgage bond prices drop and that, in turn, pressured mortgage rates higher.

Worth noting is that the top two holders of U.S. debt — Japan and China — trimmed their holdings in August by 4.1% and 2.2%, respectively.  If Japan, China and other nations continue this trend of selling U.S. debt in the months ahead, mortgage rates should continue their feel the pressure to move higher.

If all of this sounds “foreign”, remember that, like the price of a stock, mortgage rates are not divined from thin air.  Rates come from the price of mortgage bonds — nothing else.  And those prices are determined by simple Supply and Demand.

Source
Bond Market Update
Briefing.com
October 16, 2007

(Image courtesy: Directopedia)

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Mortgage calculators are ubiquitous on real estate-related Web sites but that doesn’t mean that they’re helpful.

See, Internet-based mortgage calculators take three figures into consideration when determining “how much home can you afford”.

• Income
• Debt
• Downpayment/Equity

Next, the calculator figures in your downpayment, multiplies your income by a factor of .38 and spits out an answer: “You can afford x amount of a home.”

By contrast, a true mortgage approval takes twenty-six factors into consideration. 

Mortgage calculators like the one above specifically don’t ask about:

• Credit score
• Recent bankruptcies
• Collection items
• Outstanding judgments or liens
• Intended use of property (i.e. investment property)
• Type of property (i.e. non-warrantable condominium, 6-unit)

And this is why mortgage calculators are dangerous and misleading. 

Even assuming a person’s credit history is “perfect”, mortgage calculators can still steer you wrong.  That’s because mortgage calculators ignore “compensating factors”.

A “compensating factor” on a home loan application is an exceptional strength that cancels out an exceptional weakness that would otherwise cause the loan to be denied. 

One example is a person whose monthly debts are relatively high versus their income.  This person can be still be approved for a loan if the equity position in their home is very strong.  The large percentage of equity compensates for the relatively low income and, thus, a loan that may have otherwise been denied can now be approved.

Compensating factors are an important part of the mortgage approval process and the online calculators just can’t account for it.

The best alternative to Web-based mortgage calculators is to speak with a human mortgage calculator — otherwise known as “a trusted loan officer”. Only a human can tell you both how much home you can afford, and for what loan amount you would be approved.

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The economy appears to have shrugged off August’s credit market turmoil and is continuing to expand.  This pushed mortgage rates higher last week as market players move money into stocks and hope to capitalize on the Dow Jones rally.

After the Fed’s last meeting, the central bank lowered the Fed Funds Rate by 50 basis points, or 0.50%. 

At the time, the economy was widely viewed to be in, or entering, a recession. 

• The August jobs report showed a net loss of jobs
• Billions of dollars in value were wiped each day in the credit markets
• General economic indicators showed weakness

Since the last Fed meeting, though, the data is showing the same signs of explosive growth that it did from 2004-2007.

• The August jobs report was revised to a net gain of 89,000 and showed 110,000 new jobs in September
• Consumer spending grew by three times the expected amount in September
• Consumer confidence surveys show that the average consumer is optimistic

Could the Fed have reduced rates too far, too fast?  Some traders think so because these “strength” points are causing the stock market to rally and retake its position north of 14,000. 

Some of that money is coming from the bond market.

This is bad for mortgage rates, of course, because mortgage rates are determined by the price of mortgage bonds.  As demand falls for mortgage bonds, so does the price.  And, as price falls, the rate of return increases.

The American economy’s strength is causing mortgage rates to rise.

This week, government groups will release data to give insight on the nation’s manufacturing strength, housing growth, and “cost of living” increases.  The stronger these data points are, the more money that will flow to stocks.  That should pressure mortgage rates to move higher.

If the data shows weakness, expect mortgage rates to fall.

(Image courtesy: Wall Street Journal Online)

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Until this morning, mortgage markets had been somewhat dormant over the course of the week.  There was no new data for traders to chew, digest and/or spit out.  Mortgage rates sat flat because of it.

Then, at 8:30 A.M. ET, the Commerce Department released Retail Sales data for September.  Mortgage rates are headed higher this morning on its strength.

Retail Sales is an important data point because it reflects broader consumer spending patterns around the country.  As two-thirds of the U.S. economy is tied to consumer spending, Retail Sales can be a terrific indicator of how fast the economy is growing (or shrinking). 

Today, Retail Sales was shown to have increased 0.6% in September versus expectations of 0.2%.

Continuous growth in the economy eventually leads to inflation and that’s why mortgage rates are higher today.  Inflation erodes the value of mortgage bonds which, in turn, pushes mortgage rates northward.

Despite starting higher, though, there are some chances for a U-Turn later this afternoon; four Federal Reserves members are scheduled to speak publicly.  Chairman Ben Bernanke, Dallas Fed President Fisher, San Francisco Fed President Yellen, and Vice Chairman Kohn all make appearances.

Markets will be listening closely to the speeches for clues about what the Fed may do next to speed up or slow down the economy.  The Fed meets again for a two-day meeting October 30-31.

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In another sign that mortgage markets are a bit unpredictable lately, this morning’s mortgage rates are virtually identical for conforming fixed rate mortgages and conforming adjustable rate mortgages.

This is an extremely uncommon market condition; usually, adjustable rate mortgages carry lower rates over their initial fixed rate period (i.e. 3 years, 5 years, 7 years) than corresponding 30-year fixed rate loans. 

Mortgage pricing varies on a case-by-case basis, but right now, there is little incentive for a mortgage applicant to choose an adjustable rate mortgage today over a fixed rate mortgage, all else equal. 

The “teaser rate” offered on an ARM is not really a tease when it’s compared to the fixed rate offerings.

After the release of tomorrow’s Retail Sales and Consumer Sentiment data, this condition could change, of course.  The stronger the data, the more likely that fixed rate mortgages will resume their normal rate structure, sitting somewhere higher than what is offered on ARMs.

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As a sign that some normalcy is returning to mortgage markets, the premium attached to jumbo mortgage rates is getting smaller.  

A “jumbo”-sized loan is one that exceeds $417,000 on a single-family residence, among other criteria.

Conforming 30-year fixed rate mortgages and jumbo 30-year fixed rate mortgages tend to move in the same direction over time.  You can see that illustrated on the left-side of the graph.

But, as we move towards the right, we can see how, beginning in mid-August of this year, the general direction of mortgage rates for these two products diverged.

In mid-August, you’ll remember, is approximately when the bottom fell out of the credit risk markets. 

Since late-September, though, jumbo loan risk appears to be declining.  The chart above from Bankrate.com shows that while conforming rates have remaining relatively flat, jumbo mortgage rates have dropped by about 0.125%. 

In mortgage markets, the credit pendulum tends to swing too far in both directions.  Getting approved for a home loan may have been too easy last year, and it may have been too tight last month. 

Today, though, the pendulum appears to be moving towards the middle once again.

NOTE: Bankrate.com publishes rates based on advertising, and not market conditions so the chart does not reflect actual mortgage rates.  It does reflect a trend, however.  The chart is meant to show how jumbo, 30-year fixed loans are moving lower with respect to conforming, 30-year fixed rate home loans.

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As expected, the big news last week was the Non-Farms Payroll report.  What wasn’t expected, though, was the strength of the report.  Mortgage rates ended the week on a large up-tick.

110,000 jobs were created in September, according to the Bureau of Labor Statistics.  This exceeded Wall Street expectations by 10% and — in isolation — shows that the economy may be stronger than economists think.

But the monthly jobs report also included a major revision to August’s data, too. 

Originally, the government had reported that 4,000 jobs were lost in August.  In Friday’s report, though, that figure was revised to 89,000 jobs gained.  Suddenly, the economy didn’t look so weak. 

Investors pulled their money from the safe-haven of bonds and into the stock market in hopes of catching a higher return.

When there are more sellers than buyers of mortgage bonds, the rate of return goes up and this is why mortgage rates were higher Friday. 

Friday’s revision to August’s numbers also introduced questions about the Fed and whether they lowered the Fed Funds Rate too soon.  To many observers, it was August’s supposed job loss that was the catalyst for the first decrease to the FFR since 2003.

This week, there will be some good data for markets to chew on, starting with today’s release of the Fed’s minutes from their September meeting and ending with Friday’s Retail Sales report and Consumer Sentiment survey.

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On the first Friday of each month, the Bureau of Labor Statistics releases its employment report for the United States. 

Last month, the jobs report showed that the economy actually lost jobs for the first time since 2003.  The total loss of jobs equaled 4,000 and contributed to the Federal Reserve’s decision to lower the Fed Funds Rate for the first time since that same year.

Of course, today is First Friday so a new employment report hit the wires earlier this morning.  The news was good for the economy, but not so good for people in the market for a new home loan. 

The employment report showed that 110,000 new jobs were created in the United States, reversing the negative trend from August.  More employed workers means more money earned means more money spent.  That’s why the news is good for the economy.

Now, for the bad news.

An important detail about the employment report is that it quantifies the number of jobs created in the month prior, and it also revises its calculations for the two months prior to that.  These revisions are necessary because by the time First Friday arrives, there just isn’t enough time to survey enough companies to make data 100% accurate. 

Well, August’s data was revised from a 4,000 job loss to an 89,000 job gain. 

Psychologically, this is major because the job loss in August was a huge reason why markets screamed for the Fed to lower the Fed Funds Rate.  Now, it appears, that move may have been premature.

Wall Street is frenzied on this holiday-shortened trading day.  Could the Fed reverse its course now that it has new data?  Mortgage rates are soaring higher as expectations adjust for the Fed’s next meeting October 30-31, 2007.

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Where does your money go?  If you’re like most Americans, more than half of it goes towards housing and transportation alone. 

This is according to the Consumer Expenditure Survey performed by the Bureau of Labor Statistics. 

The most recent study shows American household spending habits from 2005, but the percentages change little from one year to the next.

The largest expenditures by household are:

• 32.7% for housing
• 18.0% for transportation
• 12.8% for food
• 5.7% for healthcare
• 5.1% for entertainment
• 4.1% for apparel
• 2.0% for education
• 1.2% for personal care products/services
• 0.8% for life and personal insurance

With this industry-by-industry breakdown, we can see how changing where you live and how long you commute can be the best ways to keep your household budgets in check. 

Saving money on haircuts, clothing and food can make an impact, too, but not nearly as much as living in less expensive home or changing driving habits.

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Effective November 7, 2007, the Federal Housing Administration is expected to ban home buyers’ use of seller-financed Downpayment Assistance programs. 

DPAs are (were?) very popular in FHA mortgage circles as a way to help buyers finance their new homes.

FHA loans currently require a downpayment of at least three percent on a home purchase.  That three percent, however, is not required to come from the buyer’s own funds; it can come from a “gift” as long as the gifter is a family member or a non-profit organization. 

Downpayment assistance programs are the latter, incorporated as non-profit organizations.

Typically, DPA programs works like this:

• Buyer makes an offer for a home
• Seller accepts the offer
  Seller contributes the necessary three percent to non-profit organization
• Non-profit organization “gifts” the three percent to the buyer while keeping a $500 service fee
• Buyer buys home with three percent gift as downpayment

The main reason cited for the ban is that downpayment assistance programs push home sale prices three percent higher than they otherwise should be.  The extra three percent is not “home value” — it’s “help” and is repaid over time in the form of a higher loan amount.

One study cited by FHA and used to pass the ruling said that home buyers participating in downpayment assistance programs go delinquent with two times the frequency of home buyers that don’t.

According to the Washington Post , there are more than 200 charities nationwide currently offering such programs.

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