In the weeks since the United Kingdom voted to leave the European Union, previously low interest rates have fallen to near historically low levels.
For the week ending Aug. 25, a 30-year fixed rate mortgage averaged 3.43%, just slightly above the record low of 3.31% established in 2012. At the same time a year ago, the average mortgage rate for a 30-year fixed rate mortgage was 3.84%, according to Freddie Mac.
The drop in interest rates appears to be drawing more homeowners into the mortgage market. Freddie Mac now expects 2016 loan originations to reach $2 trillion, the highest level since 2012.
While markets have calmed since the Brexit vote in late June, the Mortgage Bankers Association cautioned in a July 14 Economic and Mortgage Finance commentary that the actual “terms and conditions of the exit will continue to destabilize markets.”
Global economic uncertainty, oil price fluctuations, slow economic growth and the potential for interest rate hikes suggest market instability will likely continue for some time, experts said. As a result, most analysts expect interest rates will remain low, at least in the short term.
“Those who have been betting on increasing interest rates have been wrong for a long time now,” said David Reiss, professor of law at Brooklyn Law School and research director of its Center for Urban Business Entrepreneurship. He believes rates likely will remain low “over the next six to 12 months, partially driven by a further reduction in spreads between Treasury yields and mortgage rates.”
Greg McBride, chief financial analyst for Bankrate.com, a personal finance website, expects “the backdrop of slow global economic growth, low inflation, and negative interest rates elsewhere will keep demand for U.S. bonds high, and mortgage rates [below] 4% in the foreseeable future.”
In July, Freddie Mac predicted the 30-year rate won’t top 3.6% in 2016, or 4% in 2017.
The low-interest rates have created new opportunities for lenders. Refinance bids recently reached their highest level in three years.
“With mortgage rates having been range-bound for so long, this breakout to the low side has opened the door to refinancing for homeowners who had previously refinanced around 4% or even just below,” McBride said. He expects refinancing demand to continue as long as mortgage rates stay close to 3.5%, but predicts rates may need to drop a bit more to prolong the boom.
Meanwhile, rising home prices are creating more equity, and the MBA expects homeowners to want more cash-out refinancing. In its July 14 report, the MBA raised its 2016 refinance origination forecasts by 10% to $760 billion, replacing its pre-Brexit projection of a decrease.
As rates fall, refinancing becomes attractive earlier for those with outsize mortgages. These jumbo loans are those that exceed $417,000 in most of the country, or $625,000 in high-priced markets like New York and San Francisco, according to a July 7 online article in the Wall Street Journal. With these big loans, lower rates can mean substantial savings.
“Borrowers with larger loans stand to gain more by refinancing, and may not need as large of a rate incentive than borrowers with lower loan balances,” according to the July 14 MBA report. Because more affluent borrowers take out these loans, they generally have fewer delinquencies or foreclosures, and lenders can steer big borrowers to a bank’s other accounts and services. They’re also becoming cheaper: Rates on jumbo loans were at record lows in July, according to the MBA.
Reiss thinks lenders have been somewhat “slow to expand in the jumbo market, and may now gain a leg up over their competitors by doing so.”
Still, lenders face some risks to profitability, including increased regulatory expenses such as the impact of the Consumer Financial Protection Bureau’s new TRID rule. Most of the pain from the TRID regulations, Reiss said, involve “transition costs for implementing the new regulation, and those costs will decrease over time.” Meanwhile, on the positive side, mortgage defects are at an all-time low, he said.
As long as delinquencies remain low and home prices don’t fall, McBride said he expects to see lenders offer more low- or no-down-payment mortgage options. Lenders have reduced their exposure with third-party partnerships that bear the initial default risk, he said, but while such loans “to borrowers with good credit are one thing, low-down-payment loans to borrowers with poor credit are a recipe for disaster.” He said that “no-down-payment loans consistently have higher default rates than loans where the borrower has some skin in the game.”
Low-profit margins also are a concern for bank lenders. While mortgage lenders can do more business in a low-interest rate environment, profitability tends to suffer when banks are constantly forced to lower their rates.
Many lenders are waiting to see what the Federal Reserve will do with interest rates in the coming months. In its July commentary, the MBA expected the Federal Reserve to raise the federal funds rate once more this year, most likely in December, although the Fed has said it would continue to monitor economic conditions in determining when and if a rate hike is warranted. Even a small increase in interest rates can result in an increase in mortgage rates, although the last rate hike in December 2015 had only a brief impact, and has been followed by months of falling rates.
Freelance writer Steve Marshall contributed to the writing and research of this article.