Fixed Mortgage Rates as Flat as Economy

February 8, 2008 -- Weary mortgage markets found little reason to move much in one direction or another this week. The overall combined average for the 30-year fixed rate mortgage (FRM) finished the week at 6.21%, unchanged from last week's final average. Five-one Hybrid ARMs marched higher by twelve basis points (0.12%), ending the nation's leading survey of mortgage pricing at 5.57%.

There was only a slight improvement in the differential between fixed conforming and jumbo mortgage rates, which narrowed slightly to just under a percentage point. Conforming 30-year FRMs closed the week at 5.77%, a level low enough to keep refinancers coming into lender offices.

FOR BORROWERS WHO NEED a jumbo mortgage -- or have one now -- some interest rate relief may be on the way... or not. The congressional "economic stimulus" package made it through both houses in short order. While the cash rebates will be welcomed by many, we'll be watching the effects of the expansion of conforming loan limits in certain geographic markets and for certain borrowers. Exactly which markets, which borrowers, what sort of rates and terms, and how soon these "expanded conforming loans" will become available is still unclear, but any number of high-cost markets will see at least some borrowers enjoying the opportunity to shave perhaps a full percentage point off the interest rate they otherwise would have to pay.

At the moment, it's hard to tell where the benefits will fall. The index used to calculate the high cost areas isn't available yet (it may be based upon certain indexes used in the past, or it might be a new one); without that, the potential benefit to a given area can't be known. About all that is known is that the formula used will be that of a 25% increase from the median home price in a defined marketplace, with a 'maximum maximum' loan amount of $729,750.

Even once those geographic areas are established, exactly how many borrowers will ultimately be helped is unclear, too. Aside from the arbitrary $417,000 starting point, jumbo (aka non-conforming) mortgages frequently have different underwriting characteristics than do conforming loans, so a borrower may not be able to fit into the strictures of conforming criteria in order to meet those eligibility requirements.

There's also the not-so-small matter of the markets themselves. Fannie and Freddie have not yet revealed how these expanded conforming loans will be priced. Will they be available at the same rates and terms as the more traditional conforming loans are now, or will there be some premium for loans above the present $417,000 limit?

BUT AN EVEN BIGGER QUESTION will be: how will investors react? One reason that the conforming loan markets remained so liquid during this credit crisis is because the loans which are packaged and ultimately turned into securities are trusted instruments, made in a well-known, fully understood and historically modeled process. While adding jumbos into the mix may be a change for good (or not), the simple fact that there is a change adds an unknown level of risk. Investors faced with unknown risks frequently demand higher compensation (yields, in this case), and it's certainly possible that all conforming borrowers might ultimately end up paying a higher rate than they would have without this rescue program.

Did we forget to mention that this plan is temporary? It will only cover those loans made from July 2007 through the end of this year. The 'back-dating' provision is presumably to allow portfolio lenders (so important in maintaining liquidity to jumbo markets these last six months) a chance to sell loans off to the secondary markets if they wish to clear their books and free up some capital or lessen loan-loss reserve needs. Depending upon how quickly the above concerns are addressed by the regulators, the time window for these "enhanced conforming" loans could be brief.

HOW IT WILL ALL WORK OUT is quite unknowable at the moment. The lever has been pulled and the wheels are spinning; what will come up is anyone's guess at the moment. As things become clearer, we'll cover them here.

One thing about mortgage markets is certain, though: Underwriting requirements are continuing to tighten, making it harder on balance to obtain a new mortgage loan. According to the Federal Reserve's latest Senior Loan Officer Opinion Survey, some 53% of respondents tightened requirements for prime-quality borrowers, 72% for subprime borrowers, and a whopping 85% for non-traditional mortgage borrowers. Non-traditional mortgages include PayOption ARMs, loans with interest-only payment structures, and other such products. Lending criteria have also become more rigid for commercial and industrial loan borrowers, raising new concerns that economic growth may suffer from additional dehydration due to a lack of credit liquidity.

Find fresh mortgage rates you can believe every day at HSH.

While there is little doubt that the economy is staggering along, the Institute for Supply Management survey of service business pointed to a hard downshift in activity in January among non-manufacturing firms. Their index plummeted from a moderately-expanding 54.4 in December to a considerably-contracting 41.9 in January, the weakest reading in the history of the survey (nearly ten years). There was a revision to how the number is calculated with this month's data, but revision or no, the figure was quite weak.

Consumer outlooks were also weak. The weekly ABC News/Washington Post poll of Consumer Comfort sported a fourteen-year low level of -33 during the week ending February 3. The six point drop in the index may have been inspired by the slew of negative news emanating from presidential candidate's camps leading up to the Super Tuesday primaries. Of course, the groundhog's predictions of the winter yet to come (or not) may have soured moods, too. If either is the case, some rebound may be likely next week, but probably only a little.

Although the broadest measure of Factory Orders expanded by 2.3% in December, the fourth consecutive monthly increase, the stockpiling of goods on intermediaries' shelves points to a slowing of orders to come. In December, inventory levels at the nation's wholesaling firms rose by 1.1%, and final sales slumped by 0.7% during the month, indicating that more goods need to be moved before new orders are placed. As a result, factories will probably start out 2008 on a weaker footing.

While hiring remains quite soft, businesses are getting more out of their employees, which is good news for those concerned about inflation spreading beyond commodities. Worker output expanded by 1.8% in the fourth quarter of 2007, and unexpected increase from the 1% seen in Q307. The costs of labor per unit of work produced rose by 2.1%, a still-mild reading. For the year overall, productivity rose by 1.6%, a healthy clip.

According to outplacement firm Challenger, Gray and Christmas, more people are losing their jobs, with nearly 75,000 job cuts announced in January. Given the weakening state of the economy and the recent surge in new claims for unemployment, such announcements are not surprising. Not all the job losses are firings (some are by attrition), and not all are here in the US as well.

After a huge spike upward during the previous week, the number of first-time unemployment claims eased back a little. During the week ending February 2, some 356,000 new applications for benefits were filed at state windows, an elevated number. However, the 22,0000 decline is at least a small move in the right direction.

Unsurprising to any retailer you might visit, consumer borrowing rose by only a slight $4.5 billion in December, down from a $15.5b binge in November. Credit card balances rose by just 2.1%, while non-revolving debt expanded by 2.4%. Uncertain consumers splurged in November, then retrenched in December, while initial reports on retail sales for January have been soft (if perhaps not as dire as feared) so far. The Retail Sales report is due out next Wednesday.

A light economic calendar this week is followed by a similar one next week. The retail sales number could sway the market, as could the price components reflected in import and export costs, or even industrial production figures. As weaker news is most likely, bonds might get a little additional bid on top of this Friday's little rally, so mortgage rates may ease off by a couple of basis points at best.

RECENTLY UPDATED: our Two-Month Forecast.

OUR NEW site survey wants your opinion: How long before the housing & mortgage markets recover?

For today's top stories, see our daily news column.