Why Now’s A Good Time To Consider An Adjustable Rate Mortgage

Comparing the 5-year ARM to the 30-year fixed rate mortgage since November 2008At least one thing is back to normal in the mortgage markets — it’s no longer cheaper to go with a fixed rate mortgage than an ARM.

As reported by Freddie Mac, a conforming 5-year ARM is priced a half-percent lower than a comparable 30-year fixed.

Earlier this year, the pricing was reversed.

It’s uncommon for fixed rate mortgages to be cheaper than comparable ARMs because, with fixed rate mortgages, lenders commit to a particular interest rate over long period of time. There is a lot of risk that comes with doing that.

By contrast, an adjustable rate mortgage is designed so that after a certain number of years, the mortgage rate changes to reflect the current market conditions. 

In theory, ARMs are less risky for lenders than are fixed rate mortgages and, therefore, we would expect them to have lower mortgage rates.  That wasn’t the case for the 6 months ending in early-May, however.  When fixed rate mortgages were scraping the 4.500 percent marker in January, 5-year ARMs weren’t struggling to stay sub-5.

The same goes for late-April’s mortgage rate dip.

Historically, there’s been a trade-off between ARMs and fixed rate mortgages.

  • ARMs give lower mortgage rates with less predictability
  • FRMs give higher mortgage rates with more predictability

Earlier this year, market conditions rendered fixed rate loans the best of both worlds — lower rates and predictability.  Today, we’re back to “normal”.

No matter how long you plan to live in your home, talk to your loan officer about your adjustable rate options, if only to know your options.  Given today’s interest rate disparity and how it can affect your monthly mortgage obligation, you may find the unpredictable nature of an ARM to be acceptable risk.

Where Does The Money Go?

2007 Consumer Expenditures surveyWhere does the money go?

If you’re like most U.S. consumers, more than half of it goes to housing and transportation costs.

According to the government’s most recent Consumer Expenditure Survey, spending patterns are little changed from years prior. 

More money is spent on entertainment and less money is spent on dining out.  Beyond that, the figures are somewhat static.

Meanwhile, using on the survey’s industry-by-industry breakdown, we can see how monthly housing payments and daily commuting costs impact a household’s budget.

For the budget-conscious, going out less often and bargain-shopping can help pad the bottom line, but not as much as living in a less expensive home or moving closer to work.

Even a refinance into lower rates can make a difference.

The Little-Known Reason Why Mortgage Rates Are Rising This Week (And Why They May Go Higher Still)

After starting the week with a run lower toward 5 percent, mortgage rates have reversed course. 

It started mid-day Tuesday and the culprit is Basic Economics.  Here’s why.

Mortgage rates are based on the price of mortgage-backed bonds and — like most things — mortgage-backed bonds prices are based on Supply and Demand. 

When bond supplies grow faster than the corresponding demand for them, bond prices tend to fall and when bond prices are down, bond yields are up.

Meanwhile, this week, the U.S. Treasury is making its largest weekly auction in history.  $115 billion in new debt, to be exact.  This means that before the week is through, $115 billion in new bond supply will have been introduced into the market and — so far — demand hasn’t kept pace with the new supply.

Prices are plunging.

For home buyers and rate shoppers, this is especially bad news because mortgage-backed debt is less desirable to investors than is treasury debt.  As a result, when treasury debt loses values, mortgage-backed debt tends to lose value, too.  Not always, but most of the time.

So, beginning with Tuesday afternoon’s auction, debt supplies have been growing faster than buyer demand. 

Bond markets are suffering from an abundance of debt supply and it’s been a big reason why mortgage rates are rising.  The week’s not over yet, either.  $28 billion is due for auction Thursday. 

If demand at the auction is similarly low, watch for mortgage rates to spike again.

More Housing Strength : New Home Sales Surge In June

Months of Supply (New Homes) -- June 2009Once again, the housing market is showing that its worst days may be over.

According to the Census Bureau, the number of new homes sold in June leapt by 11 percent from the month prior.  It stands as the biggest one-month jump in 8 years.

A “new home sale” is when a home in any stage of construction — not yet started, under construction, or already completed — goes under contract, often with a builder.  It’s the opposite of an “existing home sale”.

In addition to surging sales, the monthly supply of new homes fell to its lowest level in 11 years.

Because home values are based on the relative supply and demand for a particular home in a particular area, anytime that demand for homes grows faster than supply, we would expect prices to rise. 

Indeed, that’s what we’ve been seeing.  The combination of low interest rates, seller-paid incentives and a first-time home buyer tax credit is bringing buyers into the market faster than new supply can come online.  It’s one reason why home prices have stopped falling across many parts of the country.

It’s also why home buyers may find it tougher to get “a good deal” in real estate later this year and into 2010.  If demand stays high and supplies fall further, sellers should regain the upper-hand in contract negotiations.

The First-Time Home Buyer Tax Credit : Use It By December 1, 2009 Or Lose It

The government’s First-Time Home Buyer Tax Credit expires December 1, 2009. 

If you expect to use the program in conjunction with a home purchase, therefore, you may want to consider yourself officially “on the clock”. 

Assuming a 60-day window between contract and closing, there are now 77 days left to find a home and go under contract for it.

The First-Time Home Buyer Tax Credit refunds up to $8,000 at Tax Time for qualified home buyers.  A few of the program’s qualification criteria include:

  • Home buyer must not have owned a primary residence in the past 36 months
  • The home may not be purchased from a family member
  • The household adjusted gross income must be below $95,000 for single tax filers and $170,000 for joint tax filers

The tax credit itself is limited to $8,000 or 10% of the purchase price, whichever is less. 

Remember, though: The refund is a true tax credit — not a deduction.  This means that a taxpayer owing $8,000 to the IRS and claiming the $8,000 First-Time Home Buyer Tax Credit would owe the IRS nothing on April 15, 2010.

The complete list of qualifying criteria is posted on the IRS website.

Mortgage Rates Drop On Ben Bernanke’s “Exit Strategy”

A mortgage market rally followed the Ben Bernanke testimony on Capitol HillMortgage markets rallied Tuesday while Fed Chairman Ben Bernanke gave his semi-annual testimony to Congress.

By the time the day was over, some conforming mortgage rates were down by as much as 0.250 percent.

One of the leading causes for the market rally was Chairman Bernanke revealing an “exit strategy” from its massive market stimulus. 

Until Tuesday, the Fed hadn’t gone into much depth about means and methods by which it would unwind its interventions.  In addition to penning a widely-read Op-Ed piece in the Wall Street Journal Tuesday, Bernanke testified to Congress that the Federal Reserve has a viable “exit strategy”.

Wall Street was pleased to hear it. 

The specter of long-term inflation has spooked the mortgage markets off-and-on since the start of the year.  It’s one of the reasons why mortgage rates have been so jumpy, and why they crossed 6 percent last month.  Inflation is terrible for mortgage markets.

So, with the fear of inflation subsiding — at least temporarily — mortgage rates sunk Tuesday. 

With any bit of luck, momentum will carry rates lower today and through the rest of the week.  But, don’t get greedy.  Mortgage markets are notoriously fickle and one “bad” statement from the Fed Chairman could cause rates to rise right back up.

Bernanke’s complete Tuesday testimony can read online at the Federal Reserve website.

Falling Gas Prices May Be Linked To Lower Mortgage Rates

Breaking down the price of gasolineIf you’ve been driving lately, you’ve noticed that the cost of a fill-up has gone down.

According to GasBuddy.com, retail gas now costs $2.52 per gallon, on average nationwide.  Since peaking in mid-June, gas prices are down 6 percent.

For the economy, this is an important story. 

Because Americans are spending less at the gas pump, they’re left with additional dollars to spend in other ways including for everyday items like food and shelter, plus for luxury items, too.

Consumer spending accounts for a huge part of the U.S. economy and falling gas prices give economists one more reason to believe a full economic recovery may be close. 

With Back to School season around the corner and the holidays looming, a mini Wealth Effect could propel the economy forward and out of recession.

Falling gas prices can be good for mortgage rates, too. 

Because rising gas prices are associated with inflation and inflation is linked to rising mortgage rates, the opposite is often true, too.  When inflation pressures recede, mortgage rates tend to fall.  And that’s what we’re seeing in today’s market. 

As gas prices have fallen, mortgage rates have, too.  As a result, home affordability is up.

(Image Courtesy: Department of Energy)

For The 4th Straight Month, There’s An Increase In The Number Of Homes Under Contract To Sell

The number of homes under contract to sell increased in May. 

It’s the fourth straight month in which sales volume increased, corroborating the growing notion that housing is on the mend in most U.S. markets.

Consider these other housing-related stories from the past month:

Put it all together and it looks like the housing market is about to reach its bottom (if it hasn’t already).

But just because homes are going under contract to sell doesn’t mean that they actually will sell.  A “deal” can fall apart for all sorts of reasons including failed home inspections, buyer-seller disputes, and mortgage-related problems.

In general, though, as the number of pending contracts increase, we find that Existing Home Sales rise, too, some 45-60 days into the future.  And so long as buyers’ demand for homes remains strong, we would expect that home prices edge higher.

It’s too soon to say that housing has turned the corner for certain, but there’s an awful lot of data lately that suggests that it has.

Fannie Mae Restricts 2-Unit Borrowing

For the first time in nearly six months, Fannie Mae is imposing strict, new guidelines on American homeowners. 

This time, the hardest hit demographic is owners of 2-unit homes.

In its official announcement, Fannie Mae listed the following changes to its 2-unit financing programs, separated by occupancy type.

Primary Residence

  • Purchase: Maximum loan-to-value drops to 80%; FICO minimums reset to 640.
  • Rate-and-Term Refinance: Maximum loan-to-value drops to 80%; FICO minimums reset to 640.
  • Cash Out Refinance: Maximum loan-to-value drops to 75%; FICO minimums reset to 680.

Investment Property


  • Purchase: Maximum loan-to-value drops to 75%; FICO minimums reset to 660.
  • Rate-and-Term Refinance: Maximum loan-to-value drops to 75%; FICO minimums reset to 660.
  • Cash Out Refinance: Maximum loan-to-value drops to 70%; FICO minimums reset to 680.

With Fannie Mae’s new loan-to-value limits falling by as much as 15 percent, it’s a certainty that fewer 2-unit homeowners will be approved in the mortgage process.  This could slow both purchase and refinance activity in the coming months.

The good news, though, is that while Fannie Mae recommends that lenders institute the new policy immediately, September 1, 2009, is the “effective date”.

Therefore, if you plan to buy a 2-unit home, or if you own one and know you’ll need to refinance it soon, it may be a good idea to move up your timeframe. 

Lenders could implement the new guidelines at any time and usually do so without warning.

Change Your Closing Date To Get A Lower Mortgage Rate

Closing dates impact mortgage ratesSometimes, saving money on your mortgage is as simple as picking a better closing date. 

It’s all about Rate Lock Commitments.

A Rate Lock Commitment is a bank’s promise to honor a specific mortgage rate for a specific period of time.  They are a lender’s prediction of what mortgage markets will look like at some point in the future.

The future is murky, of course, so it follows that the longer the rate lock, the higher the bank’s corresponding interest rate.

Banks have to compensate for “time risk”.

Rate locks typically come in 15-day increments with the 30-day lock serving as the basis for all other pricing:

  • 15-day rate lock : 1/8 percent lower than the 30-day rate lock
  • 30-day rate lock : The basis for all other pricing
  • 45-day rate lock : 1/8 percent higher than the 30-day rate lock
  • 60-day rate lock : 1/4 percent higher than the 30-day rate lock

These aren’t exact figures, of course.  Spreads between rates can (and do) vary from lender-to-lender.  On average, though, they’re fairly close.

This is why choosing a closing date is so important to your mortgage rate. A 45-day closing may reduce your rate 0.125% versus a 46-day one.

Assuming a $250,000 home loan near today’s rates, that’s an annual difference of $236.

So, when negotiating a contract on a home, keep in mind how rate locks work to make sure you get the best rate possible. The shorter the length of your rate lock commitment, the more money you might save long-term.