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Fed Raises Interest Rates - Market Participants Lower Mortgage Rates

Fed Dollar

This is such a strange credit market because it’s such an unusual market.

The Federal Reserve raised the range on the federal funds rate to 1%-to-1.25% from 0.75%-to-1% this past Wednesday. That’s not so strange. Everyone expected the Fed to raise the fed funds rate.  (The fed funds rate is the overnight lending rate among banks. Banks borrow at this rate to adhere to minimum reserve requirements with the Fed.) The market’s reaction is what’s strange.

In days past, when the Fed raised the fed funds rate, interest rates would rise (either by anticipating the event or the actual event). But in days past, the Fed wouldn’t telegraph its punches as it does today. A rate increase (or decrease) would come with no (or little) warning.

These days, fed funds rate increases are telegraphed from a mile away. The market priced this latest fed funds rate increase back in early May. When everyone sees it coming, little more than shoulder shrug is needed to deflect the impact. After the Fed announced its latest fed funds rate increase, yields on government securities fell.  Quotes on mortgage rates drifted lower. Mortgage rates across the board are at an eight-month low.

In addition to announcing a fed funds rate increase, the Fed announced it was considering shrinking its balance sheet. This would be a big deal if it were to happen.

The Fed’s balance sheet is straightforward. The asset side is larded with government securities, namely U.S. Treasury bonds, and with mortgage-backed securities (MBS), which it bought in droves after the market crash in 2008. The liability side is larded mostly with dollars. When the Fed buys a Treasury security or an MBS it pays with dollars, and these dollars are conjured from thin air.

“Shrinking the balance sheet” is a euphemism for selling bonds and MBS (or not reinvesting the proceeds when these securities mature). If the Fed sells a bond, it receives dollars. When the Fed sells a bond, both assets and liabilities shrink. Liabilities shrink because dollars are extinguished and removed from circulation. This means the money supply shrinks.

The strangeness quota rises because the Fed is doing all this during a time consumer-price inflation is falling. The latest reading on the Consumer Price Index showed a drop in inflation. Higher interest rates and reduced money supply are tools used to hold consumer-price inflation in check. According to the CPI, there isn’t much inflation that needs to be held in check.

When Trump took office in November, many market watchers expected the 40-year trend of lower interest rates to end. Eight months later, it’s still game on, but it’s impossible to know for how long.

Admittedly, we’ve cried wolf on rising rates in the past, but with the Fed committed to raising the fed funds rate (which it will likely do again this year), something lurks in the economic data to support the increases.  These increases often (though not always) work their way to the long-end of the interest-rate curve. This suggests to us that anything below 4% on a prime conventional 30-year loan is still a bargain. We think that any improvement on that rate is an invitation to lock.

Preparing Your Home for an Appraisal


An essential part of the mortgage refinance process, a home appraisal is a way to judge what your property is currently worth - and how lenders can ensure that you are able to leverage the full value of your equity. When it comes to an appraisal, it is in the homeowner's best interest that it be evaluated as high as possible. With that in mind, here are a few simple steps to make sure that your appraiser sees a home at the peak of its value:

Shop around and pick your appraisers carefully
Since an appraisal is ultimately a subjective assessment of a home's value, it makes sense that different appraisers may come up with different values. Look for an appraiser who is well-reviewed by their customers, has worked with similar homes in your area and knows the local market. Most important, look to see that they are state certified.

"Be sure to inform an appraiser of any major renovations or projects you have spearheaded."

Keep an eye on your neighbors' homes
Have your neighbors recently had their homes appraised? Talk to them about who they went with and what kinds of issues they ran into. Also keep in mind that part of the home's value is tied to the property values around it. A gorgeously appointed home in a dingy area is likely to fetch a lower price than a similar home in an up-and-coming area.

Make sure your appraiser has all the facts
Even a knowledgeable, locally-based appraiser is more than likely walking in with limited information on your specific home. That means that some of the home improvements and investment you have made in your property may go unnoticed - unless you speak up. Be sure to inform an appraiser of any major renovations or projects you have spearheaded that may have bumped up the value of your home.

Mortgage Rates Drop Below the 2017 Range

Fed Reserve

We’re all but assured that the Federal Reserve will raise the federal funds rate (the rate everyone refers to when everyone refers to the Fed raising interest rates) next week. It appears a done deal, and as such, it is priced in market interest rates.

Because the Fed is in rate-raising mood, an uplift in yields on the short end of the yield curve -- the plot of Treasury yields on 1-month to 30-year securities -- has occurred. The slope of the curve remains normal, with each successive yield higher than the next. This is a good shape because it foretells an expanding economy.

The Fed raising rates should influence the short-end of the yield curve first. We’ve seen some uplift in interest paid on certificates of deposits and passbook savings accounts. But the Fed’s actions have had little influence on lending rates.  Quotes on a 5/1 ARM have generally moved lower with quotes on longer-term loans. If you look at the rate charts of the 30-year loan, 15-year loan, and 5/1 ARM, you’ll find that the rates have moved like synchronized swimmers.

The market today is like no other. Banks hold $2 trillion of excess reserves with the Federal Reserve. Before 2008 they held none, because before 2008 the Fed had not paid interest on these reserves.  The Fed raising and lowering the fed funds rate had a discernible influence throughout the yield curve before then. Today, not so much.

Five years ago, we thought quotes of 5%-or-higher on a prime 30-year loan would be the norm. A year ago, we thought 4% would be an opportunity if rates would drift so low. So much for expectations, such is the difficulty in predicting the path of mortgage rates. (Better luck is had predicting the flight path of a butterfly. This applies not only to us, it applies to everybody.)

That said, let’s take advantage of what we’ve got. Refinance applications were up last week, and so, too, were purchase applications. Indeed, purchase apps were up 10% week over week. Perhaps we’ll see an upward surprise in May and June home sales.

Why More People are Choosing Nonbank Mortgages

Main Street

Homeowners and buyers have more mortgage options at their disposal than they may realize. That's truer than ever as a new breed of mortgage lender, known as nonbank lenders, are reshaping the home loan market.

In fact, according to the Washington Post, hundreds of new institutions have come into the fold of the mortgage market, attracting as much or even more business than some of the nation's biggest banks. In 2011, the top five mortgage lenders by market share were all brand-name retail banks. In 2016, this changed dramatically, with one private lender cracking the top three, and a majority of new home loans being underwritten by nonbank lenders.

What nonbank lenders can do

There are many reasons behind this extraordinary shift. Primarily, consumers have discovered they can get better rates and a more personalized level of service through a nonbank lender. But why, exactly?

As explained by Paul Noring, a financial consultant who spoke with the Washington Post, many of these new mortgage lenders deal only in home loans. By focusing on just one product, scrapping traditional banking services like checking accounts, nonbank lenders can save money and pass that onto borrowers.

Borrowers also have been attracted to nonbanks thanks to their faster adoption of new technology and support systems that make the application process easier.

In addition, nonbank lenders are tending toward favoring borrowers who may have been rejected by big banks in past attempts to apply for a mortgage. In the aftermath of the financial crisis of 2008, banks became stricter in their mortgage lending requirements, making it more difficult for those with poor credit history to secure a home loan. As nonbank lenders have entered the market, they have also been able to extend loans to more of these borrowers, according to Mortgage News Daily. Credit reporting agencies have also adopted new ways to evaluate credit history that may favor a wider segment of homebuyers.

Through a combination of competitive rates and innovative support systems, nonbank lenders have been instrumental in the revitalization of the U.S. housing market. That's why it shouldn't come as a surprise that more homeowners and buyers are choosing these loans.

Mortgage Rates Settle at 2017 Lows, but for How Long?

Fed Reserve

We could say that mortgage rates are like the weather: We can talk about them, but we can’t do much but talk about them. 

And talk about mortgage rates we do. On that front, mortgage rates drifted lower through most of May; it’s possible they could drift lower still. 

Many market watchers focus on the 10-year U.S. Treasury note and its yield. The yield on this influential security (as it influences the yield on mortgage-backed securities, which, in turn, influence mortgage rates) has dropped to 2.21%. Market watchers who watch the yield charts, tell us that we could see lower mortgage-rate quotes if the yield on the 10-year note falls below 2.17% (which is seen as a technical support floor). 

For now, though, quotes across the mortgage board are near 2017 lows. Rates have trended lower over the spring months. Concurrently, the federal funds rate -- the rate everyone refers to when the Federal Reserve raises rates -- has trended higher and is at a multi-year high. The Fed raised the range on the fed funds rate to 0.75% to 1% in March. The effective rate -- at 1% -- is at the upper boundary of that range.

The fed funds rate is a short-term rate -- it’s the overnight lending rate for commercial banks. The fed funds rate serves as the base rate for most other lending rates. A change in the fed funds rate won’t necessarily move long-term rates (as we’ve seen), but you would it expect it to have some pull over time. So far, it hasn’t had much pull, even with the increasing likelihood we could end the year with the fed funds rate approaching 2% -- a rate unseen in nine years. 

We suspect that the lack of pull is attributable to lack of consumer-price inflation, which runs at 1.5% annually. Inflation expectations exert greater influence on long-term rates than short-term rates. Low inflation expectations are holding long-term rates in check. 

The Fed is expected to raise the range on the fed funds rate to 1%-to-1.25% at its next meeting on June 14. In fact, traders in fed funds rate futures contracts are betting a 90% chance that a rate increase will occur. What’s more, most Fed watchers believe two more increases will occur after a June rate increase.

So, the Fed will likely raise the range on the fed funds rate this month. Contrary to popular perception, though, rising mortgage rates need not follow. Indeed, since the Fed began raising the fed funds rate in December 2015, the increase has generally been followed by a slow decline in mortgage rates. If past is prologue, a further decline in rates is within the realm of possibilities as long as inflation remains muted. 

Builders Cool on Luxury Housing, Target Starter Homes

Starter Homes

While demand from U.S. homebuyers continues to outpace the supply of homes on the market, home builders have made significant progress in closing this gap recently. This is especially true now that a broader swath of the homebuyer market is seeing a prime opportunity to invest, with low interest rates and higher wages prevailing.

As a result, new data show builders and developers are increasingly targeting starter homes for younger homeowners. The Wall Street Journal reported that in the first quarter of 2017, nearly one third of new residential construction by the biggest U.S. building firms consisted of properties smaller than 2,500 square feet. This puts them squarely within range of what is usually considered a starter home. At the same time last year, only 27 percent of new housing fell into this category, with an even smaller 24 percent in 2015.

Trend reversal

With two years of considerable year-over-year growth, homebuilders and buyers are finally bucking a trend that persisted through much of the post-recession housing market recovery. Too many younger, less affluent Americans were unwilling to risk homeownership. At the same time, construction firms faced their own financial troubles, compounded by a shortage of workers. The result was a glut of luxury homes on the market but very few that could be considered starter homes.

Even as demand for all housing types picked up around 2015, the inventory of new and existing homes could not keep pace. This has driven home prices up quickly, a trend that continues - home values were nearly 6 percent higher in February 2017 than one year prior, according to the S&P CoreLogic Case-Shiller U.S. National Home Price Index.

Still, news of renewed interest in starter homes from buyers and builders adds to the evidence that the U.S. economy overall is growing ever more resilient.


Home Sales Hit a Wall

West Coast Inventory Lowest in Nation While Prices Languish Elsewhere



Home Sales Hit a Wall

Home Sales

A miasma of ennui appears to have enveloped the housing market over the past month or so, at least if we go by the national numbers. Sales (and starts) have gone south recently after heading north to start 2017. 

The unexpected decline in new-home sales induced a spat of brow-furrowing this past week. Sales dropped 11.4% to 569,000 units on an annualized rate in April. The drop counterbalanced the positive sales growth we saw in March and February.

What’s more, meaningful discounting failed to stem the decline. The median price of a new home dropped 3% to $309,200. Year over year, the median price is down 3.8%. If the current sales pace is maintained, we should expect to see more discounting by homebuilders to move inventory, which sufficiently increased last month to push supply up to 5.7 months from 4.9 months in March. 

Fortunately, one month does not make a trend. If we look at the sales trend over the past year, we see the monthly sales are up roughly 55,000 units compared to April 2016. If we look back two years, we see monthly sales are up roughly 90,000. The long-term trend remains our friend. 

When the disappointing news on new-home sales hit the wires, most market watchers adjusted their expectations for existing-home sales. They were right to do so. 

Existing-home sales dropped 2.3% to 5.57 million units on an annualized rate in April. In contrast to homebuilders, though, owners weren’t discounting to move their property. The median price for an existing home actually rose 3.5% month over month to $244,800. Year over year, the median price is up 6%. What’s more, what was offered for sale sold quickly. Days on the market fell to its lowest level since 2011.  

Compared to a year ago, existing-home sales are up 1.6%. That might seem insignificant compared to the year-over-year growth in new-home sales, but new-home sales build off a much smaller base. It’s always easier to go from one to two than it is to go from one million to two million.

As for the future, an immediate pick-up in sales is unlikely. Recent mortgage-purchase activity supports this outlook. Activity has slowed in recent weeks. The MBA’s latest report on purchase loans from a national perspective shows applications were down 1% last week (though thanks to the recent drop in mortgage rates, refinances were up 11%). 

The news on sales was disappointing, but not all that bad. Market heterogeneity is always a mitigating factor. As we know, all real estate markets are local markets. Aggregate national numbers may or may not apply to any local market.

That said, we were expecting to see something a little better than what we saw in April, especially after reading recent reports on the rising trend of millennials and other first-timers embracing homeownership. 

West Coast Inventory Lowest in Nation While Prices Languish Elsewhere


The demand for housing around the U.S. has slightly outpaced the available supply of new and existing homes for the last few years. But certain markets have seen a much more dramatic crunch than others. This trend is particularly pronounced throughout much of the West Coast, where home prices are surging due to a shortage of inventory. 

Based on the most recent data available, found that many of the cities with fewer homes for sale last year were concentrated in several markets throughout Washington, Oregon and California. Seattle led the way with the biggest decrease in homes for sale in 2016 combined with the lowest percentage of housing stock for sale. Last year, according to the data, only 1 out of 263 existing homes in the Seattle area were for sale.

The trend hit an extreme in Eugene, Oregon, home to the state's biggest university. Only 0.6 percent of Eugene's homes were for sale in 2016, a year-over-year decrease of more than 27 percent. One real estate agent who spoke with said that homes in good condition around the Eugene area could be expected to sell in as little as 24 hours after listing. The agent did note that she expected 2017 to be slightly less hectic, however.

These supply shortages have not only made housing of any kind hard to find in certain markets, it's becoming especially hard to simply afford it. Four different parts of the Seattle metro area ranked among the top 10 most competitive real estate markets in 2016, according to analysis by Redfin. In some of these neighborhoods, homes sold as much as 80 percent over their list price, while overall home values grew by at least 20 percent. The median sale price of homes in those four white-hot Seattle markets ranged from $324,000 to a high of $708,500.

Optimism Reigns, and Rightfully So

Optimism Reigns

The latest report on purchase applications for new homes produced a pearl-clutching moment for some market watchers. The MBA’s Builder Applications Survey for April 2017 showed new-home purchase applications dropped 4.3% compared with April 2016. Worse yet, applications were down 20% month over month. Could the bull-market run for new homes be approaching the finish line? 

If we dig a little deeper into the data, it appears unlikely. An exceptionally strong showing in March likely pulled forward demand from April. When the two months are combined and averaged, it looks decidedly less onerous. Year to date, mortgage applications for new homes are still up 3%. 

What’s more, the people with the most penetrating insight into the new-home market are hardly gasping. Homebuilder optimism continues to hold at a high level. Indeed, the latest homebuilder sentiment index topped expectations, rising two points to 70, in May. Optimism for future sales was exceptionally strong: The component for the six-month sales outlook was up four points to a giddy 79. Homebuilders expect to sell a lot of homes this year. 

A quick glance at the starts data could lead a market observer to believe that homebuilders are unrealistically optimistic. Housing starts have plateaued in recent months; they were even down in April, dropping 2.6% to 1.172 million starts on an annualized rate.

But if we delve deeper, we find the shortfall is related to the less important multi-family component, which dropped 9.2% month over month. The more important component, single-family starts, was up 0.4% to 835,000 on an annualized rate. 

At the rate of reported in April, starts continue to lag the historical annual average of 1.5 million. What’s more, homebuilders are unlikely to approach the historical average in the near future. The demand is there, but homebuilders are constrained by a shortage of qualified labor and rising material costs (much of the costs are related to lumber, which is why the tariff on Canadian lumber is such a bad idea). 

Mortgage activity bodes well for future sales -- new and existing. Purchase activity has been strong for most of 2017. The latest MBA data on purchase applications show purchases down 3% week over week, but still up 9% year over year. Purchase activity hasn’t been this strong in nearly a decade.

Many sectors of the economy continue to struggle since the last recession ended in 2009. Housing is the one sector that has continually maintained an upward trajectory. Recent housing data show nothing to suggest the trajectory is likely to change this year, and possibly not for many years after. 

Why Millennials Still Have Difficulties Finding a Home

Despite historically low interest rates and a growing economy, millennial homebuyers still run into obstacles when trying to buy a home.

These days, millennial buyers simply can't find a home to purchase.

Inventory remains tight

According to the National Association of Realtors, housing inventory increased 2.4 percent in January to about 1.7 million homes, which is equal to a supply of about 3.6 months. However, inventory levels still remain at their lowest point since the NAR started tracking the statistic in 1999, and have declined year over year for the previous 20 months.

Many millennials now find themselves in the challenging position of wanting to buy a home, but there aren't any to purchase. A housing shortage directly affects millennial buyers in three ways.

First, having fewer available homes makes it difficult for buyers to take advantage of low interest rates before future hikes.

Second, a low supply prevents millennials from building more equity and wealth, as they may have to wait months or years to finally find a home, The Washington Post stated.

Finally, low inventory drives up home prices. Millennials finally think they can afford a starter home, but competition between other prospective buyers eventually puts a home out of financial reach. Not only are starter homes becoming more expensive, but they aren't lasting long on the market.

Millennials can prepare ahead of time

Given tight inventory, millennials have to act quickly when they find a home. Getting a mortgage preapproval is one way millennials can quickly close on a home, because they have all the necessary paperwork taken care of ahead of time.

Preapprovals typically last 30-60 days. If millennials want to buy a home during the spring or summer, they should meet with a lender soon to start the process.