Archive for the 'Think Big' Category
Mortgage Rates Increasing on Inflation Fears
Mortgage rates have ticked upward over the past few days in response to market activity around the 10-year Treasury Bond. According to BankRate.com, the average interest rate for a 30-year fixed mortgage has increased from 5.00% to 5.39% in just a few days.
An article in today’s Wall Street Journal goes so far as to proclaim that “Mortgage Rates Surge, Sap Hopes.” They cite similar interest rate figures from a different source and quote two people from Greater Hartford about the impact on their refinancing activities. One, a mortgage banker, has put about 50 refinancings on hold because the higher rates make the deals non-economic.
Conversations about the economy have been focused on avoiding a recession over the past year. Last February we wrote a post about the balance between recession and inflation, tying it to mortgage rates. At that time the Federal Reserve was lowering short-term interest rates in hopes of avoiding a recession. We reached a critical point in September, resulting in bank bailouts and other Federal interventions to support the economy.
The trigger for the recent rise in interest rates seems to be increased confidence in the economy. The stock markets have rallied since hitting lows in early March, suggesting that investors are more willing to take on risk. Moving into riskier investments has two primary consequences:
1. Selling pressure on the safe-haven securities that investors poured their money into when the future looked bleak. US Treasury Bonds are a major safe-haven asset due to widespread belief that the US Federal Government cannot default on its obligations. Selling pressure on bonds causes their value to go down, but their yield (interest rate) to rise.
2. Concern about future demand for the tremendous amount of US Federal Government debt, which takes the form of US Treasury Bonds. There is already a considerable supply available in the market, and more is scheduled to be auctioned to support the various stimulus programs. If demand decreases, then the government will be forced to offer higher interest rates in order to attract buyers.
Investors have reversed course and are now concerned that the Federal Government is doing too much. They are creating too large a deficit. They are issuing too much debt. They are ultimately printing too much money. Investors fear that all of these things will lead to inflation. Yesterday’s Wall Street Journal cover article goes into more detail about how all these pieces interact.
So what is a home buyer to do?
The first thing to realize is that even after the recent increase, mortgage rates are still very attractive from a historical perspective. We’ve had a number of years of low rates that were enabled by all of the fancy risk-spreading techniques that ultimately collapsed.
Looking back since 1990, Federal Housing Finance Board data shows that mortgage rates used to be higher - generally 7% or above before 2002. Maybe they’ll head back to those levels; maybe they won’t.
Buyers currently engaged in a search should make sure their price range is appropriate for the current interest rates, and would still be okay if rates rose a little more. You don’t want to be in the position where you find a home at the top of your price range but can no longer afford it because of a mortgage rate increase.
If buying a home is important to you, then you should proceed as planned. Maybe you won’t lock in your rate at the absolute low. But in 3 years you might be very happy with the rate you received. And if this is a temporary spike, and rates move lower again, you will always have the option to refinance.
National Real Estate Data
People generally understand that real estate is local. The markets are driven by regional economies, which ultimately depend on the number and type of jobs in the area. Therefore local data is more relevant than national data in most real estate decisions. Local data is gathered, analyzed and published by diverse groups and individuals that range from specialty firms to local bloggers. Because every home is unique and towns have wide ranges of home types, the analysis of real estate data is not an exact science.
National data is more commonly cited by both media and homeowners despite the general understanding that real estate is local. It satisfies our inherent need for simplicity, and seems to serve as Wall Street’s proxy for the real estate market. One of the highest profile national housing indicators was developed by Connecticut’s own Dr. Robert Shiller, a Yale University economist. He has published data on US housing prices back to 1890, which is illustrated via roller coaster in the video. He also worked to create the S&P/Case-Shiller Home Price Index with collaborator Karl Case.
Shiller’s methodologies for gathering historical data have recently been questioned by another economist, who claims Shiller understates the long-run rate of increase of home prices. The source of the concern is that Shiller’s team used different data sources and gathering techniques for different historical periods, leading to inconsistencies.
But why are we getting so upset about problems with national data? We know that even the current national statistics and indices have limitations, so it doesn’t seem terribly surprising that we need to look at the historical data with a careful eye. Perhaps the issue is that the long-term increase in home prices is THE critical input that drives the “homes are a fabulous investment” argument.
The reality is that residential real estate can be a good investment, or it can be a poor one. The state of the local markets and the characteristics of individual properties are both important factors. While real estate is an investment, it is more than dollars and cents. Residential real estate provides a benefit that stocks and bonds never can - a place to call home.
The first priority when considering a purchase is to find a property that you will enjoy inhabiting. It should be located in an area where you feel comfortable and have the space and features that you need to be happy. The second priority is making sure that you negotiate a fair price for the market and property conditions at that point in time. Since most people only own one home at a time, and moving is expensive, it’s not necessarily worthwhile to try to time the market.
Besides, nobody really knows where the market will go next, though I suppose we could check the futures on the S&P/Case-Shiller Index for a hint…
Home Equity Lines - They’re Alive!
Who says there is no money out there to borrow against home equity?
After doing a little business with Bank of America in downtown Hartford the other day I was surprised to see a big sign in their lobby announcing Home Equity Lines with rates of 4.24% for $50,000 and $100,000 lines. The gentleman at the info desk assured me that not only was it still possible to get a home equity line, but that Bank of America has been offering them without interruption! I was not allowed to take a picture of the sign as proof, but I swear it exists. A quick search of the World Wide Web confirms that Bank of America is in the game, and shows that other lenders are also advertising home equity lines on their websites.
Home equity lines played a big role in our current financial crisis. Although they can serve a variety of purposes, many homeowners bet that home prices would continue to rise and used their line to extract all of the equity from their property. The cash in hand was spent on anything from home improvements to retiring more expensive debt to discretionary purchases with no enduring value. All the anecdotal evidence that I had seen suggested that banks either froze or cancelled outstanding home equity lines in an effort to manage the risk to their firm’s capital. The resulting reduction of available credit has been an inconvenience to some, and has actually hurt the credit score of others.
According to a local mortgage broker, home equity lines never completely went away. Instead the lenders simply became more conservative. They definitely froze and cancelled some lines, but at the same time they were still willing to extend new lines to very well qualified borrowers. If you had low loan-to-value ratios and good credit you have always been able to get a line. Lenders have also been changing their pricing. Where before they would offer a discount to Prime with no minimum rate, they are now charging a premium above Prime with a minimum interest rate of 4%. Finally, borrowers need to look carefully at the overall cost of a home equity line since very few people qualify for the advertised rates. Most borrowers end up paying additional points, fees, and/or expenses that increase the effective interest rate, or APR, of the line.
So it seems that the major financial institutions are still willing to add some risk to their portfolios. And we know that the government wants them to be lending despite being forced to provide considerable assistance to keep the institutions solvent. The underlying economic theory is the multiplier effect, which tries to quantify the overall impact of an additional dollar. In this case, each dollar that is loaned is spent and re-spent a number of times, spurring growth in the overall economy.
My conclusion after all of this is that although home equity lines are advertised as available, they might not be available to you. And even if you do qualify, the line may be more expensive than expected. As always, be careful when borrowing…