Mortgage interest rates have a very significant impact on
the overall long-term cost of purchasing a home through financing. On the one
hand, mortgage borrowers are seeking the lowest possible rates, but on the
other hand, mortgage lenders have to manage their risk through the interest
rates they charge. The lowest mortgage interest rates are only available to
borrowers with the most solid finances and sterling credit histories.
While the financial health of
borrowers affects the specific interest rates they can obtain, the general
level of mortgage interest rates is influenced by a number of critical economic
factors, as well as government financial policy. The factors that influence
mortgage rates all represent basic rules of supply and demand in one form or
another.
1)
Inflation
The gradual upward movement of
prices due to inflation is an important factor in the overall economy and a
critical factor for mortgage lenders. Inflation erodes the purchasing power of dollars over time. Mortgage
lenders generally have to maintain interest rates at a level that is at least
sufficient to overcome the erosion of purchasing power through inflation to
ensure that their interest returns represent a real net profit. For example, if
mortgage rates are at 5%, but the level of annual inflation is at 2%, then the
lender's real return on a loan in terms of the purchasing power of the dollars
they received in repayment is only 3%. Therefore, mortgage lenders carefully
monitor the rate of inflation and adjust rates accordingly.
2)
The Level of Economic Growth
Mortgage rates are also influenced
by economic growth indicators such as gross domestic product (GDP) and the
employment rate. Higher economic growth levels generally produce higher incomes
and higher levels of consumer spending, including more consumers looking to
obtain mortgage loans for home purchases. The upswing in overall demand for
mortgages tends to propel mortgage rates higher, since there is only a certain
supply of money that lenders have available to lend out. Naturally, the
opposite effect results from a weakening economy. Employment and wages decline,
leading to decreased demand for home loans, which in turn puts downward
pressure on the interest rates offered by mortgage lenders.
3)
Federal Reserve Monetary Policy
The monetary policy pursued by the
Federal Reserve Bank is one of the most important factors influencing both the
economy generally and interest rates specifically, including mortgage rates.
The Federal Reserve does not set the specific interest rates in the mortgage
market, but its actions in establishing the Fed Funds rate and adjusting the money supply
upward or downward have a significant impact on the interest rates available to
the borrowing public. Generally, increases in the money supply put downward
pressure on rates, while tightening the money supply pressures rates upward.
4)
The Bond Market
Banks and other investment firms
market mortgage-backed securities (MBSs) as investment
products. The yields available from these debt securities must be sufficiently
high to attract buyers. Part of this equation is the fact that government and
corporate bonds offer competing long-term fixed income investments. The yields
available on these competing investment products affect the yields that are offered
on MBSs. The overall condition of the larger bond market therefore indirectly
affects the mortgage rates that lenders charge, since the lenders must generate
sufficient yields for MBSs to make them competitive in the total debt security
market.
One frequently used government bond
benchmark that mortgage lenders often peg their interest rates to is the
10-Year Treasury bond yield. Typically, the average spread for MBSs above the
10-year Treasury bond yield is approximately 1.7%. MBS sellers must offer higher
yields because repayment is not 100% guaranteed as it is with government bonds.
5) Housing
Market Conditions
Trends and conditions in the housing
market also affect mortgage rates. When fewer homes are being built or offered
for resale, the decline in homes being purchased leads to a decline in the
demand for mortgages and pressures interest rates downward. A recent trend that
has also applied downward pressure to rates is an increasing number of
consumers opting to rent rather than buy a home. Such changes in the
availability of homes and consumer demand affect the levels at which mortgage
lenders set loan rates.
Article
by Investopedia.com
Courtesy
of First Choice Title Services & Escrow, Inc.
First Choice Title Services &
Escrow, Inc
3 SW
129th Avenue, Suite 202
Pembroke
Pines, FL 33027
Phone
(954) 433-7680
Fax
(954) 433-7355
maria@firstchoicetitleservices.com
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