February 25, 2017 / Casey Fleming
Last week I wrote that interest rates were still flat-lining, but a holiday-shortened work week and light economic data could push bond yields down. As you can tell from the chart below, 10-year bond yields and mortgage-backed securities did rally, driving bond yields down.
Lenders remained confused, however, and on Wednesday and Friday we saw lenders set interest rates in the morning, then re-price two or three times during the course of the day. On Wednesday they went up, then down, then down some more – but only by small increments.
One of the better (albeit extremely technical) mortgage blogs out there is HSH Associates. They summed it up nicely this week like this: “Mortgage rates didn’t move much again this week — to be honest, they haven’t move much since the calendar turned 2017 — but the interest rates that underpin mortgage rates have turned a bit lower, and we may see mortgage rates follow a bit in the coming days.” I concur.
By Thursday, when the Freddie Mac weekly mortgage market survey was released, rates had actually ticked up a hair, but remember this is a backward look, and a Thursday to Wednesday reading. Expect the green line in the chart above to tick down – slightly – next week.
Home sales in 2017
One economic report that came out last week was existing home sales, which were expected to be down. Instead they were up – to the highest January level since 2007. Some note that the jump occurred despite rising interest rates, but it is possible it occurred because of rising interest rates.
The January sales figure measures closed transactions, not accepted offers. These closings represent transactions that went into contract in November through perhaps mid-December. Since the rates jumped after November 8th, some speculate that is it possible that buyers felt pressured to get into contract in order to lock down interest rates before they moved up.
There’s no way to measure if that’s true, of course. If we want to get a better feel for current activity, we could look at mortgage applications to see if they are increasing or decreasing. As it turns out, purchase applications are up slightly from a year ago, and up notably compared to the period of 2010 through mid-2015. If you look at the chart to the left, however, you can see that purchase applications are still down by more than half of where they were at the peak of the market.
Imagine the sheer amount of economic activity this 10-year drop in purchase applications represents. Now let’s take a look at refinance activity by comparison. Looking at the chart to the right you can see that you’d have to go back 16 years to find refinance activity lower than it is now. This is why loan officers are updating their resumes. As interest rates rise, refinance activity plummets, and we are seeing the carnage now.
Back to interest rates
How does the mortgage application data relate to interest rates? If you recall I also track the margin that lenders demand above their wholesale cost of funds. In the beginning of 2016 lenders raised their margins dramatically, especially in the summer when the market went crazy and there was way too much business.
You can see that the margin has calmed down, but is still not back to pre-2016 levels. The current uncertainty in the market has lenders nervous about cutting their margins too thin. However, we’ve gone from being significantly over capacity last year to significantly under capacity this year. Lenders simply don’t have enough business to keep their pipelines full; that will eventually put pressure on margins. If the cost of funds continues to fall and the industry’s capacity continues to remain under-utilized, we should see interest rates start to slide again.
However, it is important to understand that the likelihood of interest rates returning to last year’s level is very low.
What’s up for interest rates this week?
On Monday the Pending Home Sales data comes out and could be interesting, but is not expected to move markets.
On Tuesday the revised GDP growth for Q4 2016 will come out. This will be closely watched, and could send the bond markets on a wild ride one way or another. The Case-Shiller home price index will also come out Tuesday – always interesting, but less likely to produce movement.
On Wednesday the big kahuna will be the ISM manufacturing index, as it could foretell of coming wage increases, leading to inflation.
Thursday we have weekly unemployment claims, and there is little reason to believe that will surprise to either side.
Friday, however, the Non-Manufacturing Index could alarm investors or calm them down, and Janet Yellen will be speaking about the economic outlook. She tends to be very careful in public announcements, but it’s how the market interprets her words that will determine how it impacts interest rates. She begins speaking at 11:00 AM PST, so watch the markets for movement beginning about noon.
Interest rate outlook
So, what will interest rates do this week? As I like to say, rates want to go down. They are hanging up on nervousness about the market right now, but if you look at which direction the pressure points, there is (in my opinion) still more pressure on rates to fall in the short run than rise. (However, in the longer run, it is probably the opposite.)
Look for Monday to open with slightly better interest rates than Friday, and then for the market to be highly responsive for the rest of the week.
This article represents the opinion of Casey Fleming, and not necessarily that of C2 Financial. This analysis was prepared with the best information available at the time it was written. Neither Casey Fleming, nor C2 Financial Corp., have any magical insider information about bond markets, real estate markets or mortgage markets that would make economic projections any more reliable than any other source. No warranty is made that the outcome will reflect the projections in this article, and neither Casey Fleming nor C2 Financial Corp. are responsible for decisions that you make regarding your own choices about your real estate or mortgage or those of your clients.
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