MORTGAGES

Mortgage rates fall as economy slows

As national home market cools, lenders fight for

shrinking group of buyers.

By Holden Lewis
BANKRATE.COM
Saturday, August 12, 2006

The housing bust is hitting the mortgage market, too.

Rates on long-term mortgages have dropped to their lowest level since April as loan applications dried up in many parts of the country.

Although the Central Texas real estate market remains strong, fewer people are applying for home loans nationwide than at any time since May 2002, according to the Mortgage Bankers Association of America.

The association's market composite index, a measure of loan application volume, is down 25 percent from a year ago.

Mortgage rates have been slipping for months. Although the weekly changes are small — a few tenths of a percentage point — they can knock several dollars off a monthly mortgage payment.

The benchmark 30-year fixed-rate mortgage fell 9 basis points to 6.57 percent, according to a Bankrate.com national survey of large lenders. It was pushing 7 percent just three weeks ago.

The 15-year fixed mortgage was 6.25 percent this week, down a notch from last week. The initial rate on a five-year adjustable-rate loan slipped to 6.32 percent.

A number of factors contribute to the falling rates. Lenders compete vigorously for slices of the shrinking pie. People all over the world buy U.S. Treasuries and mortgage-backed securities as safe investments during wartime, pushing down the yields of those financial instruments. The government reported that the economy slowed in the second quarter of the year.

Bond investors paid less attention to a measure of inflation called the core personal consumption expenditures price index, or PCE.

It showed that prices for items, excluding food and energy, were up 2.4 percent from the second quarter of 2005. That's higher than the Fed wants inflation to be. What's worse, core PCE rose at an annual rate of 2.9 percent in the second quarter — a sign that inflation was accelerating.

As an analogy, think of the economy as a car that's going down a 60-mile stretch of road where there are checkpoints exactly every 15 miles. The Fed wants the car to take at least an hour to travel the 60 miles. The car passes the third checkpoint at the 45-minute mark but clears the last 15 miles in just 10 minutes. Time to hit the red lights.

But the consensus on the bond market is that a slowing economy will bring inflation down eventually as the Fed's 17 consecutive rate increases take full effect. The Fed broke its streak of raising rates Tuesday, voting to keep the rate at 5.25 percent.

Whether rates go up or down, some portion of homeowners have reason to refinance.

According to mortgage financing giant Freddie Mac, a big reason to refinance in the second quarter was to extract cash from the home's equity.

From April through June, 88 percent of Freddie Mac-owned loans that were refinanced resulted in new loans that were at least 5 percent higher than the old loan balances, according to Freddie. Those people were doing cash-out refinances.

Economist Amy Crews Cutts says a lot of people are using cash-out refinances to pay off the balances of their home equity lines of credit. That can result in lower monthly payments because the average rate on a credit line is near 8.25 percent.