The basics of mortgage rates

Mortgage Rates

Mortgage rates are the interest rates assigned to a home loan, which is commonly known as a “mortgage”. Mortgage rates are based on the price of mortgage-backed securities (MBS), which are bonds backed by U.S. mortgages. Mortgage rates vary between conventional, FHA, VA, USDA, and jumbo loans; and, by mortgage lender.
How mortgage rates are “made”

Looking for current mortgage rates? Join the crowd.

Huge numbers of U.S. consumers research mortgage rates every day. Most just want a ballpark figure to help do the math on what buying a home would cost, or to see what a home refinance would look like.

Others prefer personalized mortgage rates — especially when they’re close to making a decision about what to do next.

To everyone, though, getting a good, low rate is paramount. A mortgage is not something on which you want to overpay. Imagine paying “too much” on the most valuable asset you own; and, for the next 30 days.

This is why it’s important to understand how mortgage rates are “made”.

When you have a feel for how mortgage rates are made and how mortgage rates work, you can put yourself in a better position to shop for the lowest available rate with the best closing costs possible.
Verify your new rate (Dec 28th, 2017)
What is a mortgage rate?

Did you ever wonder where mortgage rates come from?

Mortgage rates are “made” based on bonds traded in the mortgage-backed securities (MBS) market. Similar to corporate bonds, mortgage-backed bonds trade all day, every day.

MBS pricing changes constantly.

In general, as the price of a mortgage-backed bond changes, so do mortgage rates. This is true for conventional mortgages backed by Fannie Mae and Freddie Mac mortgage bonds; and for FHA loans, VA loans and USDA loans, which are backed by Ginnie Mae mortgage bonds.

The price of a mortgage bond is based on supply and demand. All things equal, when Wall Street’s demand for mortgage bonds increases, mortgage bond prices rise which causes mortgage rates to fall.

Mortgage rates and MBS prices move in opposite directions.

Demand for mortgage bonds can change for a multitude of reasons, but the most common driver of demand is risk-avoidance. Most mortgage-backed bonds are guaranteed by the U.S. government, therefore, they’re considered “extra safe”.

Default risk is practically nil with U.S. government-backed debt.

During periods of economic or political uncertainty, then, U.S. mortgage bonds tend to be in high demand. It’s trading pattern is known as a “flight-to-quality” and it’s a fairly common one.

When there’s a bona fide flight-to-quality going on, consumer mortgage interest tend to drop.

Note, though, that interest rates for conventional loans such as the HomeReady™ mortgage are based on a different class of mortgage-backed bonds than interest rates for FHA loans, VA loans, and USDA loans.

Mortgage rates will often move in the same direction, but not always in equal measure.

Rates for a conventional 30-year fixed rate mortgage, then, may not drop as quickly as rates for an FHA Streamline Refinance loan, for example.

VA mortgage rates are often the cheapest.

Also, sometimes, mortgage rates are subject to “adjustments”; price changes made by the agency which secures the bond.

For example, with Fannie Mae and Freddie Mac, mortgage interest rates on a 2-unit property are higher than for a single-unit home (e.g.; a detached home). This is because owners of 2-unit homes are more likely to default, historically.

Fannie Mae and Freddie Mac also change mortgage rates for borrowers based on their credit scores. In general, the lower your credit score, the higher your mortgage rates.

These sorts of adjustments are known as “loan-level pricing adjustments”. They’re akin to middleman fees and they reflect the added risk of a particular mortgage loan trait.

By Tim Lucas

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