Mortgage rates have been on a ride over the past year, and the ride has been heading mostly downhill. Rates ticked up a bit over the past two months, but have now dropped again to set a new record low.
The most recent downtick has been driven by the Federal Reserve’s new commitment to spend $40 billion a month to purchase mortgage-backed securities. The Fed’s goal is to lower mortgage rates and boost the housing market. One of the toughest challenges for homeowners is to determine whether now is the right time to refinance their mortgage.
Let’s do a little Mortgage 101 to understand how the mortgage market works.
The 30-year fixed rate mortgage tends to track up and down with the 10-year U.S. Treasury rates. The spread between the 30-year mortgage rate and the 10-year U.S. Treasury rate expands and contracts over time with market conditions, but is usually in the neighborhood of a 2 percent spread for a prime credit borrower with a conventional mortgage. That means the interest rate on 30-year fixed rate mortgages would be roughly 2 percent higher than the 10-year U.S. Treasury rate. In today’s market, we are seeing slightly tighter mortgage spreads of approximately 1.7 percent.
As of this past Thursday, the Freddie Mac Primary Mortgage Market Survey posted a rate of 3.40 percent for 30-year fixed rate mortgages, with an average of 0.6 points paid at closing. This is a new record low.
On the same day, the 10-year U.S. Treasury was yielding 1.66 percent. So the difference between the 3.40 percent mortgage rate and the 1.66 percent U.S. Treasury yield is 1.74 percent, or 174 basis points.
Now, let’s look at the big picture and bring this into perspective.
First, we have not seen the 10-year treasuries at such a low range in our lifetime. The principal driver of these low Treasury rates is what Wall Street refers to as the “fear trade.” Given the growing concerns over the health of the U.S. economy, the boiling sovereign debt issues driving the Euro crisis, and the significant slowdown of the Chinese economy, investors have flocked to U.S. Treasuries as one of the safest places to park money until things get resolved.
As demand for these U.S. Treasuries increases, their prices go up, and the interest rates paid on the Treasuries go down. All of this is affecting your mortgage rate. We are living in a truly global market.
The 10-year U.S. Treasury rate has recently ticked up a bit, but 1.66 percent is still at an incredibly low level. For comparison, it has been as high as 15.84 percent back in September 1981, and as low as 1.43 percent this past July. The mean over the past 100 years has been roughly 4.5 percent.
And we’ve seen this more normalized range over the past decade with 10-year Treasuries yielding 4 percent to 5 percent. So a return to the norm would certainly not be a surprise, once the economy starts to recover at a more robust pace.
So as you ponder when to refinance, you have to ask yourself this question: Are rates more likely to go up, or go down?
Based on where the 10-year Treasuries are trading today at 1.66 percent, they’re a lot closer to zero than the all time high of 15.84 percent. If they experience a dramatic drop to 1.0 percent, which would be another record low, you could possibly see a 3.0 percent rate for a 30-year mortgage. But if they revert to the historical mean of 4.5 percent, you’ll most likely see mortgage rates in the range of 6 percent to 7 percent. Yet today, you can secure a 3.40 percent rate for a conventional mortgage.
We can’t predict where U.S. mortgage rates are headed. If we have a further meltdown in the global economy, rates could drop a bit further. But looking at the big picture over the past 100 years, it’s pretty obvious that mortgage rates have way more room to go up, than to down.
My advice for you is to not let greed take control of your thinking. We are enjoying the lowest mortgage rates on record. If you’re thinking about refinancing, go online and do some comparison-shopping for rates. Then lock in quickly with your favorite lender. The savings on your monthly mortgage payment will be a certainty.
And one day down the road, you’ll be able to tell your grandkids about the ridiculously low mortgage rate you were able to get, way back in 2012.
Tom Reddin, former president of Charlotte-based LendingTree, writes an occasional column for MoneyWise about mortgages and home ownership. A version of this column previously appeared on his blog, MortgageRates.us. He runs Red Dog Ventures, a venture capital and advisory firm for early stage digital companies.
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