Where Are We? Where Are We Going?

Posted: Feb 05, 2007 1:43 AM

It's a new year, and I have been off work so long (5 days), I forgot my password to my email account. I know that probably tells me something. However, I am not sure I want to know what it indicates.

We start the year with one significant problem brewing in the mortgage arena: short term arms are beginning to go from fixed to variable rates. Many people took short term arms in 2003 and 2004 that were historically low. I put out a number of loans to people in 2004 that had interest rates of 3.375% on a three year arm up to $1 million and 3.875% on a five year arm with the same parameters. This year, the three year arms are going to become variables, and unless short term interest rates come down, the variables will be significantly higher in rate and payment. (We need the Federal Reserve to start cutting their rates.) What should be done by you?

First and foremost, consider the low arms of the past a gift and realize that we may never see them that low again. Next, be aware that long term fixed rates have come down to rather interesting places and that this is especially true for the 10 year fixed and the 15 year fixed. These loans are in the middle to high 5% range. They are still significantly higher than your old three or five year arm, but they are well priced for fixed rates. They are worth consideration because of both the interest rate and the shorter term to maturity.

Please note: If you have a five year arm, I would recommend that you continue paying it off as fast as possible and do not concern yourself with the fact that it will become a variable in two more years. Do not give up this amazing rate because you are worried about what might occur in the next couple of years.

Another option for those who are giving up their three year arm is to consider a straight variable with a low margin: 1% if you will pay a point or in the high 1% range if you desire a loan without points. Please note that I am referring to the margin and not the start rate. The margin is the most critical component of any variable you are considering. Although interest rates are straight variables are high now, the Federal Reserve will cut rates sooner or later.

When they do, you will benefit for years based on the fact that your margin, the percentage that is added to the index to determine your actual interest rate at every change date, will be low enough to keep you comfortable with low payments until the loan is eventually paid off. Most of these loans come with an interest only option which could be used until the interest rates start dropping. This would keep your payment lower and closer to the payment you were making on your current arm.

So where are we going and how soon is the trip going to begin? We are going to see lower interest rates in the near future as we are really living in a split economic environment. Those on the higher economic plateau are doing fine while those who haven't made it to the lofty heights are suffering with a stagnant wage market and higher costs for almost everything they need in their daily existence. This would include fuel, health care, insurance, etc, For this group, trying to make ends meet is getting more and more difficult.

The economy in recent years has been fed by the consumer who was pulling large amounts of equity out of their houses. Soon after that came the real estate slow down; the equity isn't growing nearly as fast in most places and starting to shrink in other areas. Being employment is not a real problem at this time, (lack there of would cause house prices to accelerate to the downside), the only stimulus to get housing back on track is lower interest rates.

Therefore, as soon as economic numbers start indicating a weaker economy, the Federal Reserve will have to start lowering their short term rates which will have a ripple effect across the mortgage market. As we begin the year, the ten year treasury note remains about 2/3% lower than the "over night" money which has created what would be referred to as an inverted yield curve. This isn't normal in stable economic markets over the long run.

In another note, the states have reaped a windfall of tax revenues from the booming real estate market in the past few years along with the Federal Government. This has come from the profit taking of those who have sold their houses. The States would be hurting again if this were to come to an end.

I will have more economic updates for you as the week progresses.