Unfortunately, many mortgage shoppers are under the impression that banks set the rates on home loans. Consumers may see an ad with Bank ABC offering 6.5 percent on a 30-year fixed rate loan while bank XYZ offers 6.25 percent, and of course mortgage shoppers will gravitate towards bank XYZ. However, the reality is that mortgage interest rates are beyond the lender’s control, and the truth is secondary investment markets actually dictate interest rates. Banks offer consumers interest rates based on what investors in the secondary market are willing to pay.
The Importance of Secondary Investment Markets
So, why is it important to know that secondary investment markets set interest rates and banks do not dictate the rates? The answer is simple, consumers have plenty more choices when shopping for mortgages than they are lead to believe. In most instances, banks that originate mortgages do not hold on to the mortgages and make money on the interest payments for the long term. Instead, the banks make money by selling the mortgages to investors on the secondary mortgage market, and the rates those investors are willing to pay determine what type of mortgage interest rates consumers can expect to pay.
The secondary markets and the process as a whole helps consumers in two ways: 1) Mortgage interest rates are never fixed by banks; therefore, one individual bank does not hold a monopoly over the mortgage market, and banks must compete for mortgage shoppers and their business, and 2) Mortgage originators such as banks and finance companies have 24-hour access to capital, and since there is no cap on the amount of funds available, financing becomes far more affordable for consumers.
The Mortgage Market Today
The financial collapse that began in late 2007, which ultimately lead to the Great Recession of 2008, devastated the U.S. economy and sent the mortgage and housing markets spiraling. As of 2015, banks and finance companies still feel the ripple effects from the financial collapse. Banks only offer the lowest interest rates to the most creditworthy borrowers. However, starting in 2013, banks began returning to the secondary mortgage market to buy and sell mortgages, and the tight lending restrictions banks placed on mortgage financing gradually began to loosen.
Average interest rates are still at historical lows, although some indications show rates gradually starting to move higher. Mortgage shoppers with good credit scores should act now before rates move any higher and well before the New York Federal Reserve and fed chairman Janet Yellen raise the Federal Funds target interest rate, which some analysts speculate could occur in September.
The Benchmark Indicator for Mortgage Interest Rates
Many mortgage professionals agree that the interest rate on 10-year Treasury bonds serves as the best indicator to determine where mortgage interest rates currently stand. Although banks originate most mortgage loans as 30-year fixed-rate products, most consumers refinance or sell their homes within 10 years. Therefore, mortgage analysts, mortgage brokers and mortgage finance companies use the 10-year Treasury yield curve to gauge where mortgage interest rates are today and where they may be headed in the future.