Three Things Homebuyers Should Know About Mortgage Rates

For most Americans, a mortgage is the largest financial transaction they will ever make. And, it’s likely to be the most complex. Even after the changes demanded more than a decade ago by regulators to clarify the terms of mortgages, it may still seem overwhelming to sign and initial a stack of paper that encumbers you for the next few decades – or, until you decide to sell or refinance the property and pay off the loan.

Here, for the neophytes, are a few simple points about mortgages.

There is no U.S. Department of Mortgage Rates

Mortgage rates are set, ultimately, by the investors who buy the bonds where most U.S. mortgages end up. The investors decide the return, or “yield,” they’re willing to accept for the mortgage-backed security, or MBS, where your home loan will live. Lenders will add a margin to account for the risks and the costs of making the loan, and for their profits, that’s often called the “spread.” And, of course, borrowers also pay origination fees on top of that. Typically, mortgage rates tend to track the yield on the 10-year Treasury, with a margin. That’s why an increase in demand for T-bills, as they’re known, will put downward pressure on mortgage rates – higher demand means investors have to accept lower yields.

Sometimes the increase in demand for U.S. bonds is coming from overseas. For example, Brexit – the exit of the UK from the European Union – caused a flight for safety among international money managers to dollar-denominated fixed assets, meaning U.S. bonds. It caused lower rates for American mortgage borrowers when UK voters first passed Brexit in 2016 and again in 2018 after the Withdrawal Agreement was signed. But, too much economic turmoil at home can increase risk, causing U.S. home-loan rates to increase and credit to dry up no matter what's going on overseas. That’s why the Federal Reserve jumped into the mortgage markets in March of 2020, at the beginning of the Covid-19 pandemic, becoming the market’s biggest buyer. It reassured investors and created enough demand to grease the credit wheels, causing rates to hit new lows throughout the year. Now, as the Fed contemplates tapering its purchases, market-watchers expect rates to rise gradually. Most economists forecast the 30-year fixed rate will average about 3.2% by the fourth quarter of 2021 and 3.4% by the end of 2022. That’s based on the Fed extricating itself from the mortgage markets without causing a panic, as happened in 2013 – the so-called “taper tantrum.”

Lenders follow the rules – and then some

Standards for mortgage lending are set by the companies the lender expects will purchase the home loans and package them into bonds. For most of the market, that’s Fannie Mae and Freddie Mac, the world’s two largest mortgage buyers. They're called government-sponsored enterprises, or GSEs, because they were chartered by Congress decades ago to help to make mortgages more widely available by allowing lenders to offload the loans – in the old days, loans sat on the books of a bank for 30 years, or whatever the length of the loan was, making lenders pickier about borrowers. The market’s other big buyer is Ginnie Mae, which packages and sells loans backed by the Federal Housing Administration, the Veterans Administration, or the U.S. Department of Agriculture.

Fannie, Freddie and Ginnie shoulder the risk if a loan goes bad, agreeing to purchase it back from bond investors. That guarantee makes credit more widely available. All three mortgage securitizers have minimal standards that loans must meet. However, lenders often add to those requirements in what the industry calls “overlays.” If a loan goes bad right away, it’s not guaranteed by the GSEs and the lender will have to buy it back from the security. If the economy is soft and lenders are concerned about defaults, they become stricter. All that means: you can’t just go by what Fannie, Freddie or Ginnie say about their qualifications. The lender has the last say, and may add rules of its own.

The mortgage origination process is getting simpler, but it’s still messy

The Covid-19 pandemic was a massive kick in the butt for the mortgage industry to become more high-tech, including more widespread acceptance of digital signings and notarizations. However, the real estate industry in the U.S. is centuries old, and sometimes shows signs of it. You may wiz through all sorts of disclosures and signings of loan documents when you start the process, but don’t be surprised when it all comes screeching to a halt and you need to provide a “wet signature” – using a pen, rather than a click on a screen – during the underwriting process. There will be a staffer assigned to your case who will let you know what documents need to be submitted, and which ones need to be signed the old-fashioned way.

And, when it comes to the end of the process, most Americans still sign their mortgages with a pen. A mortgage is a complex document, so you’ll be signing multiple times and you’ll be asked to initial every page. While mortgages are simpler because of the changes following the financial crisis, there’s still a stack of paper to sign – though, usually, not as high a stack as a decade ago. Be prepared for writer’s cramp – remember that?