Any mortgage rates forecast must take into account the fall-out from the sub-prime crisis - now poorly named, because the rot has spread from the high-risk sub-prime sector to even the prime mortgages underwritten By Freddie Mac and Fannie Mae.
There are several ways in which the sub-prime crisis affects mortgage rates forecasts.
1. Each Mortgage Rates Forecast Rises Due To Increasing Risk
When house prices plummet as a result of forced sales, it makes mortgage lending in general more risky. Even a 20% deposit has not been enough to prevent some home owners from defaulting on their mortgages and being unable to sell for a high enough price to cover the loan. Mortgages classified as "prime" are now showing up as losses on the books of some banks. The investor's response to increased risk is always to require a higher return - in this case, a higher return means a higher interest rate on mortgages. Interest rate predictions must be for higher interest rates as a result of the mess in the residential real estate markets across the country.
2. Any Mortgage Rates Forecast Rises Due To Falling Supply And Rising Demand
Mortgage interest rates, like all retail interest rates, depend on the general interest rate in the wider economy - the rate at which banks and other financial institutions can borrow funds. This is usually benchmarked by the 90 day bank bill rate. Generally, lenders only have 10% of the funds they lend out as mortgages in deposits - the rest is borrowed. This is why having too many defaults on mortgages can get a bank into big trouble - they can no longer afford to pay their own debts then!
The sub-prime crisis greatly reduced the willingness of other organizations with money to lend it to banks for the purpose of mortgages. This means that the supply of credit has markedly reduced. A low supply and a steady demand will always cause prices to rise, and in this case, the price of money is the interest rate.
The credit squeeze is putting upward pressure on the mortgage rates forecast, and all interest rates in general.
3 Our Mortgage Rates Forecast Rises Due To The Falling US Dollar
As a result of the sub-prime crisis, ant its spread to the prime mortgage market, the entire US financial system is regarded by the rest of the world as unstable. This is resulting in a flight of mobile capital from the US. The only way to entice this capital to remain in the US, and thus halt the slide in the US dollar, is to pay a higher return, which means having a higher general interest rate within the US, including for mortgages.
The government bail-out of Freddie Mac and Fannie Mae, while necessary to stabilize the property market within the US, will further erode the confidence of international money managers in the US economy, putting further downward pressure on the US dollar.
Until the US dollar stabilizes, there will be significant upward pressure on any mortgage rate forecast, and interest rates in general.
While some are still arguing about the causes of the sub-prime crisis, there is no doubt that its effects are significant and far-reaching. The instability of property prices, the credit crunch, and the loss of confidence in the greenback will take several years to restore to what was previously considered "normal" - and there is a very real possibility that we will never see the US dollar as strong on the global stage again.
For this period, possibly up to a decade in length, the mortgage rates forecast is in one direction only - upward. If you can, fix your mortgage now for 30 years, because you may not see mortgage interest rates this low again for decades.
Home owners in the US must take stock at this point in time, and ensure they are well-placed to survive an extended period of higher interest rates. Fixing mortgage interest payments at these historically low rates for a 30 year period may well be the best financial decision a home owner could make.
Mark Bennett is a staff writer for Money Talks, and contributes regularly to other financial sites. This article is part of his series on refinancing, which can be seen at EmergencyRefinancing.com
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