By: Matt Pell (Mortgage Warehouse)
Who sets mortgage rates? Why do rates change? How often do rates change? What is a Mortgage Backed Security (MBS)?These are some of the questions we are often asked by our clients and the following is a brief explanation of the MBS market and how it works.
Mortgage loan interest rates, and the corresponding fees or points charged for various rates, are driven by the prices of Mortgage Backed Securities (MBS). While lenders, in effect, set their own mortgage rates, how those rates are set is driven largely by the then current prices of Mortgage Backed Securities. MBS are actually pools, or groups, of mortgages packaged into securities for sale in the secondary market. One security may, for example, be made up of 500 loans totaling $75,000,000. These securities are backed by Fannie Mae, Freddie Mac, or Ginnie Mae which are traded in a manner very similar to Treasury bonds, stocks and other fixed income securities. What investors will pay for these securities drives interest rates. The going price in the secondary market for loans at various interest rates influences the rates and prices a lender will offer to the public. Although rate sheets are typically issued no more than a couple of times each day, (several times daily during times of volatility) the value of the mortgages, or the price of MBS, is actually constantly changing.
A wide range of economic, social, and political factors leads to changes in the value of a mortgage whenever new information is released.The two factors with the most impact on interest rates are economic growth and inflation. The faster the economy is growing, the more demand there will be for capital, leading to a higher cost for borrowing money. That's why good news about the economy is often good for stocks but sinks bond and MBS prices. In addition, growing economic activity adds to demand for all types of resources which lead to inflation; which erodes the value of a dollar. Since mortgage rates are often fixed for the life of the loan, inflation over the years can seriously diminish an investment’s inflation adjusted return. Predicting what inflation will be for years in the future can be very difficult, and being wrong can be very costly. This is why MBS prices are so highly sensitive to anything that changes ones expectation of future inflation. Economic reports which contain measurements of the strength of the various parts of the economy and the amount of inflation are released daily and some reports have more significance than others.
As with the price of any product, any factor which affects the supply or the demand will alter the price. In addition to economic news, there are other notable influences on the demand for MBS which often affect the price. Investors turn to MBS markets when they want an investment which is less risky than equities. In times of political instability the demand is greater for these lower risk instruments. Therefore, a terrorist attack for example, may produce a rally in MBS markets. Furthermore, foreign central banks may have motives for purchasing securities which are different from investors who are assumed to be seeking to maximize their investment return. At times, investors may simply want to protect their principal and choose to park their money in safe assets like US Government guaranteed MBS or Treasuries. We could write a book on all the factors which affect mortgage rates, but this serves as a basic introduction for your own understanding.
Created By:
Matt Pell
Phone: (239) 672-8502
Matt@mortgagewarehouse.com
Mortgage Warehouse, LLC
13430 Parker Commons Blvd., Suite 103, Fort Myers, FL 33912