Mortgage rates are supposed to rise in 2015, at least that’s the prediction from the housing industry. According to real estate brokers, mortgage lenders and home builders the cost to finance a new loan is likely to hit 5 percent during the year and maybe more, although Fannie Mae offers a more conservative forecast, suggesting that rates will only reach 4.7 percent.
But what if the predictions are wrong? Very wrong. What if rates stay where they are or even fall? Is such a thing possible?
If history is any measure mortgage rates are notoriously difficult to predict. For instance, in 2014 rates were supposed to hit 5.4 percent according to Lawrence Yun, chief economist with the National Association of Realtors. In fact, rates for 30-year fixed rate loans largely moved within a tight range running from 4 percent to 4.25 percent.
Looking at current predictions the sense here — for what it might be worth — is that 2015 will surprise us all. It’s entirely possible that rates will largely stay where they are and perhaps even fall.
How could such a thing happen?
Let’s start with money. The most interesting characteristic of cash is that it can be moved with electronic speed anywhere in the world. So if you had a lot of money where would you move it?
Europe is one of the largest markets in the world, surely a good place to stash investment capital. Whoops, that’s not quite true. Unemployment in Germany, an economic powerhouse, now stands at 6.6 percent. Worse, the European Central Bank is “paying” negative interest.
“Several global banks,” reports The Wall Street Journal, “have begun charging large customers to deposit their money in Euros, a rare move that could have costly implications for investors and companies that do business on the Continent.”
Speaking of negative interest, we also have Japan. An economic model for much of the world, Japan is now struggling. The Nikkei stood at 17,371.58 as of December 12th, a huge rise for the year — yet far below 1989 when the index reached 38,915. Yields on two-year notes in Japan fell below zero in November according to Bloomberg Businessweek.
Okay, well what about China, supposedly the world’s emerging economic titan. Vast numbers of apartment and commercial buildings have been erected, but vast numbers of units are also unoccupied. No sales and no tenants equal no loan payments.
“In the see-saw flow that has been China’s economic data of late,” reported Forbes in early December, “the official purchasing managers index from the National Bureau of Statistics came in worse than expected, sending Chinese equities into the gutter in the pre-market hours.”
Here’s another one: Anybody look at oil prices lately? The expanding Chinese and Indian economies were supposed to create a sellers’ market but that hasn’t turned out to be the case.
“The price of oil has fallen to a five-year low after slowing manufacturing in China spooked investors already reeling from OPEC’s decision not to cut production at a crucial meeting last week,” wrote The Times of London in early December.
The OPEC states cannot cut oil production for a very simple reason: If they cut output the price of oil increases and the attraction of alternative energy sources such as wind, solar and fracking grows. Once you have your wind mills and solar farms in place they’re in place for decades. Scotland, as one example, now produces enough electricity from wind to power its entire housing stock.
This is great news for American drivers and the U.S. economy, however, the impact on oil-producing and oil-dependent states such as Russia, Iran and Venezuela will be devastating.
Governments need certain levels of revenue to function and with falling oil prices the money to support various programs just isn’t there, not exactly a good omen for national calm and stability. No less important, low oil prices allow consumer nations to build reserves, reserves which can blunt future price hikes.
Some oil-producing states will need to quietly increase production to fill national treasuries. Of course, more production is more supply and more supply will help tamp down prices still more.
I bring these items up not with any particular glee but to point out a basic reality: While people and governments are pretty much immovable, cash is not. It will flow to the places where the combination of risk and reward is best. Without question, at this moment that’s the USA.
Mortgage Money Supply
The reason to think that stable and perhaps even lower mortgage rates might be available in the coming year concerns the movement of money. The world is a mess and cash is flowing into the U.S. mortgage system. It doesn’t matter that mortgage rates in the U.S. are low, they’re better then in places with negative interest or where you and your family are physically at risk.
In 2014, it was estimated that the U.S. financing system held some $2 trillion in “excess” cash, a vast supply of money and a central reason for low mortgage rates. Unless universal peace and tranquility suddenly break out there’s no reason to believe that funds in large amounts will leave the U.S. anytime soon.
We know that the supply of mortgage cash is huge so where’s the demand that might justify 5 percent rates in 2015? If rates rise, affordability declines and that’s not good for increased sale activity or the possibility higher prices.
“Firming home prices in markets across the country contributed to a slight dip in nationwide housing affordability in the third quarter of 2014,” according to the National Association of Home Builders/Wells Fargo Housing Opportunity Index (HOI).
What’s a “slight dip?” Compared to the first quarter, sure. But the HOI index shows that for the third quarter 61.8 percent of the families earning the U.S. median income of $63,900 could buy a typical home. That’s down from 73.7 percent in the first quarter of 2013 — and that wasn’t too long ago.
Likewise, the refinancing market is largely dead and will stay that way for years to come because 80 percent of all outstanding mortgages are now below 4.5 percent according to the Mortgage Bankers Association. The refinancing market will be deader still if rates rise.
The Federal Reserve and Mortgage Rates
The Federal Reserve could impact rates and may seek to send them higher.
“The Federal Reserve’s benchmark lending rate has been near zero since December 2008,” reports Kevin G. Hall with the McClatchy Washington Bureau. “After several years of purchasing government and mortgage bonds to stimulate the economy, the Fed is now readying to slowly notch up its lending rate — a so-called lift-off — because the economy is now healthier.”
Not so quick. First, an end to the Fed bond buying program has not produced higher mortgage rates, instead rates have pretty much fallen. Second, who benefits if the Fed seeks higher interest levels?
Consider that in the first 10 months of 2014 — a period with mortgage rates largely between 4 percent and 4.25 percent — existing home sales were lower than during the same period in 2013. If interest rates increase how do borrowers cover the cost of steeper monthly payments? How do prices and sales increase? How do marginal borrowers qualify?
Imagine that the Browns have $80,000 a year in household income. Let’s say they shell out $300 a month for car payments, $200 for student debts and $300 for credit card payments, a total of $800 a month in recurring debts. Let’s also say that in their community they can expect to pay $600 a month for property taxes and insurance.
If lenders allow 43 percent of their gross monthly income to be used for debts, the Browns can set aside $2,867 for usual costs. If we take away $1,400 per month for bills, property taxes and homeowners insurance that leaves $1,467 for a mortgage within typical lender guidelines. If they get a 30-year fixed rate loan at 4 percent they can borrow $307,279. Raise the rate to 5 percent and their ability to finance a home sinks to $273,275.
Raise rates and many marginal borrowers now qualified to buy will be flushed out of the market. As well, owners in large numbers will be forced to lower sale prices or stay in place.
Here’s a thought: Maybe policies which seek to raise interest rates are not such a good idea. Maybe we’re hooked on low rates — and will be hooked until job growth and higher household incomes can support bigger monthly payments.