Editor's Note: This article is a guest post from Keith T. Gumbinger, Vice President at HSH Associates, Financial Publishers. It is the third in a four-part series on financial literacy.
Perhaps the most frequently asked question we field at HSH.com is, "Where are mortgage rates today--and where are they headed?"
It's a simple enough question, but there isn't a single, simple answer. A series of complex relationships can determine the price of a mortgage and the direction of rates for short-, medium-, and long-term outlooks. To effectively track rates like a mortgage professional does, there are a few things you'll need to know.
Short-Term Influences on Mortgage Rates
If you're buying or refinancing a home, you probably don't need to look at long-range historical mortgage rates, but there is some value in seeing if the overarching trend is upward or downward as your transaction approaches. What you do need to know is where rates are today, and their likelihood of rising or falling during your transaction period, usually the next 30 to 90 days.
There are a couple of basic, overall influences on the direction of mortgage rates in play at all times. Some of the top influences are economic growth or decline, investor demand for mortgage-related investments, and rising or falling inflation. These factors follow basic supply-and-demand patterns--that is, the greater the demand for a given product or service, the greater the price of that product or service.
Mortgage Rates and Credit Supply
In the case of credit, strong demand for the available supply of money to be borrowed leads to an increase in the price for loans (i.e., a rise in interest rates). Interest rate increases most often occur when the economy is growing, and declines usually occur when economic contraction sets in. During times of economic contraction, there may be plenty of money to lend, but few takers, which is when cut-rate financing becomes more widespread.
Investor Demand for Mortgage-Related Investments
In today's market, mortgage lenders usually sell mortgages they make to investors, who then own the right to receive those mortgage payments. Selling mortgages on the secondary market replenishes cash, allowing mortgage lenders to lend anew.
The existence of this secondary market means that demand by downstream investors for mortgages can dictate the price and availability of new credit. A mortgage investor may decide, given the risks of buying and holding a mortgage investment, that a 5% yield (interest rate) isn't a high enough return for his money but that a 5.25% yield might be. If other mortgage investors think this too, mortgage rates would in turn rise to 5.25% to suit the investor's needs.
US Treasuries Indicate Direction of Mortgage Rates
So the economy goes up and down, inflation flares and subsides, investor interest waxes and wanes, and mortgage rates rise and fall. If you're inclined, you can research and study these essential elements more deeply as a part of gaining greater mortgage knowledge.
However, it's worth noting that many of these factors affect the interest rates found on debt issued by the US government, too. For fixed-rate mortgage rates, the 10-year US Treasury yield (TCM) is among the most influential and can provide a very good indication as to whether or not mortgage rates are rising or falling today.
The difference between today's average mortgage rate and the yield of the 10-year Treasury is called "spread." Spread is the "risk premium" an investor requires to cover his potential for loss, and mortgage investors have lost plenty over the last few years. While spreads widen or shrink to reflect these increases or decreases in risk, it is a fair bet that if underlying 10-year TCM yields are rising, mortgage rates are, too.
You can track average mortgage interest rates and Treasury values on a regular basis at HSH.com. For some of the other mortgage-rate influences, including the Federal Reserve's role, you can read our article, "What Moves Mortgage Rates?"