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Up, Up, and Away

November 21, 2016

It has been a heckuva week for interest rates in general and mortgage rates in particular.  That’s putting it mildly. 

Since the election, the yield on the 10-year U.S. Treasury note has soared nearly 40 basis points to 2.25%.  The yield hasn’t been this high since early January. 

And as the 10-year note goes, so, too, go mortgage rates.  The 30-year fixed-rate loan has kept pace with the 10-year note.  A couple weeks ago, 3.625% was a frequent rate quote on a prime conventional 30-year loan. Today, 4% is the likely quote you’ll receive on the same loan. 

As you’d expect, the spike in rates has set lending activity on its heels. Demand curves are, after all, downward sloping: The more something costs, the less of it that’s demanded; the less something costs, the more of it that’s demanded. Last week, costs rose for mortgages. Refinance applications were down 11%, while purchase applications were down 6%, according to the Mortgage Bankers Association’s latest weekly survey. 

The good news is that mortgage rates are still low by historical standards. The average rate on a 30-year fixed-rate mortgage is 4.9% over the past 10 years. If we go back to the 1990s, the average rate was 8.1%.  The problem is that when people focus on history, recent history anchors expectations. For the past four years, the average rate on a 30-year loan has been below 4%. This year, the average has been significantly lower than 4%, with a 3.6% average rate. (All averages are based on Freddie Mac data.) 

Of course, everyone wonders what higher interest rates mean to the future of housing and mortgage lending. 

To be sure, ultra-low lending rates have helped housing maintain an upward trajectory. The math is simple enough: the lower the financing rate, the more house you can buy.  On the investment end, the lower the financing rate, the higher the present value. Everyone rightly wonders if rising rates will upset the current housing-friendly dynamic.

That said, regulatory reform could provide a meaningful offset.   

Risk aversion has run high since the 2008 financial crisis. But this risk aversion associated with credit-granting has been further elevated by regulatory risk. Lenders have faced greater legal hazards related to mortgage lending. The biggest lenders have paid billions of dollars in fines related to defaulted mortgages.

Yes, the Trump election has brought higher interest rates, but it could also bring regulatory reform. A more-lender-friendly regulatory environment could be in the waiting. During his campaign, Trump trumpeted the need to rollback the more onerous aspects of lender regulation, beginning with Dodd-Frank. How higher lending rates and more liberal lending standards would jibe remains to be seen.

Current financial-market expectations point to an interesting start to 2017, to say the least.

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