Consider this scenario ... [snip]* Homeowners can no longer easily tap into their home equity ...
IMHO, not necessarily a bad thing. Too many folks wasting their home equity on vacations, etc.
Posted on 10/18/2003 1:29:50 PM PDT by sourcery
A funny thing happened last week. Mortgage rates remained basically unchanged, inching up just 2 basis points to 5.81% from 5.79% a week earlier, according to the Mortgage Bankers Association of America. But demand for refinance loans and purchase loans dropped. Like a rock.
This was not your garden-variety drop. It was a huge plunge: Applications for refi loans sank more than 22%. Applications for purchase loans crashed 19%.
Refinance applications are now down MORE THAN 75% from their late-May peak while purchase applications are at their lowest level since April.
What's going on? It's pretty obvious ...
* The big reason consumers were rushing to refinance their mortgages until May of this year was FALLING mortgage rates. Whenever rates fell another notch, it generated a new crop of mortgage refinancing. But when rates STOPPED falling, the new demand began to dry up. And now, although mortgage rates did not rise very much in the most recent week, they are still up 75 basis points (three quarters of a percent) from the multi-decade lows set in the spring. That's killing the mortgage refi boom.
* When mortgage rates were falling, new home buyers could thumb their noses at rising home prices. "So what if the house is more expensive?" they said. "As long as our monthly payments are lower, who cares?" Now, though, the price increases of the past five years are finally going to cause sticker shock. Indeed, during that period, personal income rose 23% while the average price of a new home jumped 27% and the average price of an existing home skyrocketed 39%.
Combine the two factors -- higher mortgage rates AND higher home prices -- and the result is a significant jump in monthly payments. That means big trouble for the housing market.
Remember: The mortgage boom is what powered demand to the frothy bubble level where it still rests today. Now, what will happen as the mortgage boom comes to an abrupt end? What will be the impact on the rest of the economy?
Consider this scenario ...
* Higher mortgage payments end the boom in home sales ...
* Home prices stagnate and then actually begin to decline ...
* Homeowners can no longer easily tap into their home equity ...
* A huge source of new cash into the economy -- for spending or even stock market investing -- dries up ...
* Real estate, mortgage and construction industries -- among the few that were ramping up their hiring -- start shedding workers ...
* The real estate industry drops many of the 64,000 jobs it has added since May 2000 ... the construction industry drops many of its 70,000 ... and the credit intermediation industry (which includes mortgage lenders) drops a big portion of the nearly 250,000 jobs added since 2000.
* All industries that feed off of a booming housing market -- furniture, carpeting, home appliances and more -- fade quickly.
* The entire consumer economy sinks, setting off a chain reaction of declines in virtually every industry.
This won't happen tomorrow. But as long as mortgage rates continue moving up, it's hard to imagine how it can be avoided in the months ahead. And whether this scenario starts unfolding now or next year, it's certainly not too early to take protective action: Reduce your debt. Avoid sinking more money into investment real estate. Build liquid cash, regardless of how low the current yield may be.
We're back down into the 5's on the 30-Year Fixed, with rates being pushed up by signs of a stronger economy. Thing is, there is no inflation and THAT'S what drives interest rates.
No but the rates are tied to the growth of money, as well as the demand for money. It is not necessarily ordained that they go higher at this point.
Interest rates are a function of a) inflationay expectations, b) perceived credit risk, and c) the supply of lendable captial relative to demand. So in a deflationary debt collapse such as we are about to experience, interest rates can rise to the sky as perceived credit risk rises, and as the supply of lendable capital implodes due to the "multiplier effect" operating in reverse as debts are liquidated. Inflation is not the only determinant of interest rates.
Well, when you put a pot of water on the stove, and turn the burner on high, it's theoretically possible that the water will freeze instead of boil. But's it's not likely.
Because very strong fundamental macroenomic forces are pushing rates higher. Examples: US trade deficits, US budget deficits.
Because interest rates cycle from high to low to high--and we've just passed the low point for this cycle. Rates have already reached historic lows.
It is also the the cost of the risk premium likely to be charged to the GSE's when they hedge their MBS portfolios.
See also: Contradictions: The Fed vs. the Bond Market
What Fannie and Freddie do is what good hedge funds should do. They go into the futures market to hedge their interest rate directional risk. You see, if short term rates were to rise above the average rates they have lent to their long term mortgage buyers, they could find themselves in the position of losing money. Lots of money. So they hedge.They do this in the Eurodollar futures markets. They use swaps or options on swaps called swaptions. (Swaptions are options contracts which, in return for a one-off premium payment, give you the right to enter into a swap agreement at the option expiration.) Again, nothing wrong with this.
Bianco notes the problem lies in that they need over a Trillion Dollars (that's with a "T") of these derivatives. In order to get a trillion dollars to line up on the other side of the trade (to take the risk from Fannie and Freddie), they have to pay a premium. Apparently it may be a big premium.
Bianco argued at lunch, in the shadow of the Chicago futures markets, that it is not the expectations of bond traders for actual rate increases, but the massive need for Fannie and Freddie to hedge its portfolio that drives the Eurodollar rates.
The mortgage debt market is now larger than the government debt market. One can make an argument it is the most significant piece of the US economy. Why take any risk at all?
Yet, if Bianco is right, the bond market sees more than a little risk, and that is why interest rate futures are priced so high in the face of the Fed telling us rates are going nowhere. If there were no risk to this trade, there would not be such high risk premiums.
LOL, Well the economy is improving although it's questionable yet how much. That certainly argues for higher rates.
But what is happening on the monetary side? And adequately growing money supply will keep rates low despite the economic growth. I'm asking. I haven't looked at the monetary figures in a couple of years.
But if you had cash in the bank, it was great fun! Right around that time is when we, the little people, began to be allowed to open Individual IRAs...I had my first couple in the 15 to 16 percent area.
All the savings institutions loved to advertise with those little charts showing us how quickly we'd have a zillion bucks if just stuck with making an annual IRA contribution for 20 or 30 years.
Now, I can't get 2 percent.
Neither have I. I have serious doubts if most people have any idea of what the consequences are going to be. Short term memory loss or attention deficit disorder I suspect.
Richard W.
Not good medicine at all. The artificially low interest rates have managed to obscure and exacerbate underlying economic problems while prviding temporary and illusionary feel good doses of consumerism to the public. It has turned into a full blown ponzi scheme with ever increasing amounts of quick fix borrow and spending to keep it looking good and the public placated. Meantime, manufacturing jobs and real productive activity is leaving town. Misguided and irresponsible bubble economics that can only end badly.
Richard W.
A big factor in home buying the number of new households. With divorce prevalent (typically causing one spouse to start a new household) and no slowing of immigration, the demand for homes will continue on an upward trend.
Refinancing naturally slows down after so many have already refinanced! It takes a 2 point differential to really make it worthwhile.
Consider this scenario ... [snip]* Homeowners can no longer easily tap into their home equity ...
IMHO, not necessarily a bad thing. Too many folks wasting their home equity on vacations, etc.
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