Fed's Move to Lower Mortgage Rates May Backfire On Market
The Federal Reserve’s latest moves to push down mortgage rates quickly raised expectations about helping the housing recovery, but it may be months before the impact is entirely apparent and the effects may not all be positive, say people in the real estate and housing industries.
First and foremost, there is general skepticism about the how much impact government intervention will have in the marketplace, as well as concern about the potential for unintended consequences.
“It’s wrong to place too much hope on what the Fed would be able to accomplish in pushing rates lower,” says economist Dean Baker, co-director of the Center for Economic and Policy Research. “There’s a limit to what they can realistically do.”
That’s apparent in what some call the inevitable bounce back in rates since the Fed's announcement at the March 19 FOMC meeting that it would increase its planned purchase of GSE and MBS debt as well as finally begin buying longer-term Treasuries.
The yield on the 10-year note went from roughly 3.00 percent down to 2.50 percent, but has slowly climbed back to around 2.75 percent. Thirty-year mortgage rates, which track the 10-year yield, have moved accordingly.
“Rates are historically low, but the expectation is that interest rates should be much lower than they are,” says Manhattan Mortgage Company CEO Melissa Cohn.
That sort of criticism highlights the difficulty of the Fed’s mission, and though the significant drop in mortgage rates in the past six months has been welcome in almost all quarters, it is hardly a magic bullet for the multi-faceted housing market
For one, Cohn and others have seen a greater increase in refinancing activity that in loans for home sales.
The Mortgage Bankers Association last week increased its forecast for loan originations in 2009 by 40 percent to $2.8 trillion, more than any year since 2005 and the fourth highest on record. Some 71-percent of that, however, will be refinancing. Home purchase origination's will be almost 4-percent lower than last year.
“For the purchase market, it is still an issue of the economy," says Jay Brinkman, chief economist and senior vice president of the mortgage industry trade group. “I don’t think rates were an impediment even before the Fed’s move.”
Refinancing does not a housing rebound make, although it certainly increases the chance of keeping a homeowner out of foreclosure. That and other forces continue to put a drag on housing.
Right now, the single-family market is still in the doldrums, though many measures point to a possible bottom.
Thus far this year, existing single-family homes are off an average of 6 percent from 2008 and prices are down 15 percent from the previous year, according to the National Association of Realtors.
On the bright side, inventory has been below a 10-month supply for three months and the NAR’s affordability index now stands at a whopping 175 vs. a meager 107 in 2006, when house prices peaked in most parts of the country.
According to NAR Chief Economist Lawrence Yun, every 1-percent decline in mortgage rates typically generates an additional 500,000 home sales.
The average rate on a 30-year mortgage was more than 6-percent in the fall of 2008, while last week it was as low as 4.85 percent, according to Freddie Mac, so that could mean a lot of sales in the pipeline.
Yun, Cohn and others, however, are quick to point out that many are still not benefiting from lower rates, despite all the hoopla. (And the jumbo sector also has issues ... read here).
“Who has access to these rates,” asks Yun. “Only super-worthy buyers.”
“Rates are low, but you have still have to get financing,” says Cohn. "People don’t have the equity or the [FICO] score. The banks still need to lend."
Those shortcomings aside, some analysts say the government’s efforts are as much about psychology as they are about commerce.
“One of the things the government is trying to do is say we’re close enough to a bottom, so rather than creating the risk of another huge decline, it's saying let’s try to stabilize things at this level,” says Andrew Jakabovics, associate director for housing and economics at the Center for American Progress. “It may be artificial for some set of time, but, as more people gain more comfort with where things are, they’ll start to buy.”
“It will provide something of a floor under prices," adds Brinkman.
In other words, low interest rates—along with the government’s foreclosure mitigation program—may be the best the market can do right now, until a real bottom is hit and recovery starts to kick in.
Still, as well intentioned as the government effort may be, some analysts worry it is simply too much of a good thing and could backfire in any number of ways at any time.
For instance, they say efforts to lower market interest rates are almost simultaneously being undercut by the government’s unbridled borrowing in the credit markets.
“It amazes me the ten-year is as low as it is, given all the money the government is borrowing,” says independent banking analyst Bert Ely.
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Ely and others say it is only a matter of time before the government will have to start paying a premium to entice investors to buy new government debt and that in turn will raise mortgage rates.
“As a private investor you have to be crazy to go into Treasures at current yields,” says Baker, the economist. “That’s a sure loser. Everyone knows rates are going up.”
The only way to prevent that—if at all—is for the Fed to increase its purchase of securities even more.
For some, the government’s mortgage rate initiative has other, more worrisome aspects. At its most basic, it has the looks of a lending boom built on cheap money and poor underwriting standards aimed at the lower end of the housing market, driven by government-controlled entities such as Fannie Mae and Freddie Mac, as well as the Federal Housing Administration.
Edward Pinto, a former chief credit officer at Fannie Mae, says loan-to-value ratios are still dangerously high for most of the loans the government is making and that it is setting up a whole new group of borrowers for home foreclosure. He calls it reminiscent of the subprime fiasco.
“We have the lowest prices in six years, the lowest mortgage rates in a generation and they’re sill trying to pump up the market,” says Pinto.
He also worries that Fannie and Freddie will have trouble “rolling over" the debt, as Freddie did in the summer of 2008, when it had to exchange short-term for longer-term debt, an event some consider a contributing factor to the necessity of the government's takeover.
“Stop interfering," is Pinto's advice to the government. "Say you're done; you're not going to announce any new programs, ones that you've never done before. Let the market adjust to what you have done."