Good Time to Shift as Rates Drop

Washington Times, September 1, 2006By Henry Savage

The advertisements are increasing. The media has picked up on it. The bloggers are talking about it. And yes, mortgage rates have dropped more than many of us realize.

After almost two years of gradually rising rates, there are signs that long-term mortgage rates may have ebbed. The 10-year Treasury bond, the best benchmark to gauge the direction of 30-year fixed-rate mortgages, is showing signs of a downward trend.

The question is whether the latest drop in rates is the beginning of a long-term trend or a mere blip.

On June 30, 2005, the 10-year Treasury bond yielded 3.94 percent. Since then, the yield has risen slowly, peaking on June 28 at 5.25 percent. Since then, the T-bond has dropped to 4.79 percent.

Likewise, 30-year mortgage rates have dropped, some would say significantly. Back in early July, refinancing with zero points and zero-closing-costs might carry a rate of 7.125 or 7.25 percent. Today, the same zero-closing-cost option has dropped to almost 6.50 percent.

In the old days when the consumer's only choice was to take a rate that carried thousands of dollars in points and closing costs, a 1/2-percent or 3/4-percent drop in rates would have little effect.

Today, with the zero-closing-cost option, even a 1/2-percent drop can save the homeowner some money. The principal and interest (P&I) payment on a $350,000 loan at 7.25 percent, for example, is $2,388 per month. At 6.75 percent, the P&I drops to $2,270, a difference of $118.

Whether saving $118 a month is significant depends upon how you look at it. Think of it this way: Shaving 1/2 a percent off your mortgage rate will buy you almost 40 gallons of gas every month at $3 a gallon. Now I have your attention.

Homeowners are beginning to respond to the drop in rates and the incessant stimuli provided by mortgage advertisers. The Mortgage Bankers Association recently reported that refinancings, while down more than 25 percent from the same period last year, are at a recent five-month high.

But it's not just the drop in long-term rates that's creating the rush to refinance. Adjustable rate mortgages (ARMs), as most folks know, have skyrocketed in recent months. ARM rates as low as 3 percent a few years ago have, or will soon be, adjusting to new fully indexed rate of somewhere between 7 and 8 percent, depending upon the ARM's index and margin.

The newest trend in the media is to warn homeowners carrying adjustable rates about the pending increase in rate and payment. These warnings should be heeded. The sharp acceleration in home values created a sharp demand for low-payment mortgages, such as ARMs, interest only programs, and the so-called "option ARMs."

My advice on what to do differs depending on the type of program you have. Let me try to summarize.

• Folks who are carrying a long-term ARM with an interest-only payment option: These are programs with a fixed rate for seven or more years that allows a low, interest-only payment. Compare your current rate with market rates. Since the rate is fixed for a significant period, you may not be in a rush to refinance unless the current rate is well above market rates.

• Folks holding an ARM that's due to be reset anytime within the next 48 months: My advice is to consider refinancing now, unless your plan is to sell prior to the rate adjustment. Rates may, indeed, fall more in the next few months, but there's certainly no guarantee. The recent drop in long-term rates, coupled with low- and no-closing-cost options, provide a window of opportunity.

• Folks carrying an option ARM who are making the minimum payment and negatively amortizing the loan: Negative amortization means that the minimum payment allowed doesn't cover the interest charged, thereby increasing the balance each month. These folks need to get out now, not necessarily because of the negative amortization feature, but because the rates on these programs are now well north of 7 percent. If you think you can't afford more than the minimum payment, speak with an experienced loan officer about a long-term interest-only program that carries a low rate.

Whatever your current situation, it certainly doesn't hurt to pull out your mortgage note and make sure that there are not products available in the market today that can improve your overall financial picture.