Sometimes no news is good news. News that mortgage interest rates are about to drop isn’t earth-shattering or eye-popping, but it is not necessarily a bad thing at all. Why is that?
I’ve been mentioning for the last few months that lenders are swamped because of the unexpected drop in interest rates this year. I’ve also noted that the spread between their cost of funds and the retail interest rate that you see has grown. While a large spread and free competition should drive interest rates down, no business has a sale when they can’t handle the business they have. Consequently, rates – while near historic lows and lower than anyone predicted this year – have stayed higher than they could be. In theory.
First, let’s look at this from the perspective of the last year. The image to the right charts the Freddie Mac weekly survey of lenders. This charts actual loans locked each week, so it’s a look in the rear-view mirror. The blue line at the top represents 30-year fixed mortgages. You’ll notice that while interest rates are significantly better than a year ago, they have changed very little since January. Significantly, though, we seem to be slipping back to the level of late January – the point right before lenders got slammed with too many applications to handle.
But now lenders are catching up to their backlog. Over the last couple of weeks lenders “quoted turn-times” – their estimate on how long it would take them to complete each cycle of the loan process – has been dropping. In February and March turns times exploded to as much as three weeks for some lenders while they tried to work through the backlog; now they are typically 1 to 3 days for each step.
If the cost of funds stays low, therefore, retail interest rates could well come down. So are they? Not yet…
Take a look at the image on the left, which by now you’ve seen before if you read this blog. The red line at the bottom charts the 10-Year U.S. Treasury bonds, which does not directly affect mortgage rates, but does tend to track them fairly closely. Notice we had a quick dip in mid-January, a nadir in early February, a bump up, a higher dip in late February, and then a steady rise since then. But in the last two weeks a nice trend has been developing downward again.
The blue line charts the Fannie-Mae 60-day yield – the rate that Fannie Mae quotes lenders for loans that the lender will deliver 60 days from now. Fannie sets this rate based on what investors are paying for the mortgage-backed securities that Fannie issues, so although the rate is “set” by Fannie, it follows markets pretty closely. Note that this interest rate follows the bond market up sharply, but down slowly. We like to say that mortgage rates jump up, and settle down. You can see that once again they are lagging movement downward in the 10-year bond, as investors wait to see if the trend holds.
Finally, the green line charts interest rates of loans that were actually locked each week. This therefore adds the influence of the decisions made by mortgage companies about retail pricing. When the gap between the blue and green line narrows, gross profit narrows. When it widens, gross profits go up. Notice how wide it was during February – why have a sale when your store is so full of customers you can’t get to them all?
Now notice that the gap (spread) between the red and blue line is widening this week, indicating pressure on investors moving forward to reduce their yield requirement on mortgage-backed securities. Then, notice that the gap between the green line and the blue line is already widening, meaning the pressure on lenders to improve retail pricing could rise soon, especially if lenders are catching up with their backlog.
So are interest rates about to drop? If the 10-year yield continues to drop tomorrow (Friday) and next week, expect interest rates fall next week. If they fall back to the level of early February (and they are very close to that now) then if you do apply for a loan, expect it to take a while to get through the system.
Are you in the market for a refinance? If interest rates are about to drop as I think, let’s talk now, not two weeks from now.