Right now is as good a time as you may find to refinance your mortgage, whether for your home or a commercial property.
In a piece titled “5 Reasons 2019 Is The Most Important Year For Housing In 10 Years” I argued that changes in interest rates were on the shortlist of critical factors that would impact the U.S. housing market this year.
Mortgage rates have been on a steady decline in 2019. Ten-year treasury rates have dropped from 2.7% in January to a one-year low of 1.5% in August. This is a material drop from a recent high of 3.2% in October 2018.
The sharp decline in interest rates over the last 3 months has resulted in an inverted yield curve, where 10 year treasuries will pay out a lower rate of return than 2 year treasuries. So, imagine a bank says they will pay you more each year if you keep your money with them for 2 years than they would pay if you kept the money with them for 10 years. The “bank” that is currently offering lower long-term rates than short-term rates is the United States of America.
All of this has created a scenario where right now is as good of a time as you may find to refinance your mortgage.
Here are 3 reasons why:
1. The interest rates that go up and down on Wall Street each day (treasury yields) could go down further, but the actual bank that would lend to you does not have to pass that decline along to you as the consumer. History suggests that declines in interest rates from here won’t show up in the rate a bank will quote to you. Why? At very low interest rates, like the rates we have now, banks tend to be more nervous. At this current level of interest rates banks want to be compensated for the additional risk of lending.
In a recent analysis published by Stephen Kim, a top-ranking housing analyst at Evercore ISI, he states, "there is a clear tendency for the spread between the 30-year fixed mortgage rate and the 10-year treasury yield to widen as the 10-year yield declines below 2%." At the current level of rates there is a high probability that further rate drops will be met with higher spreads or put simply – banks aren't likely to reduce their lending to you materially, even if interest rates fall further.
2. If interest rates fall materially from here – another 1/4 - 1/2 of a percentage point – that will likely be because a recession is imminent or already weighing on the economy in the minds of traders and finance professionals. Interest rates tend to go up as economies are growing and fall when there is concern about the economy, all else equal. So, if we get another shock to the economy – beyond an inverted yield curve and a global trade war – that causes rates to drop again that could be ominous for asset prices. In other words, another big drop in rates could make banks re-assess their home or property price assumptions. While the interest rate the bank might quote you may not rise much, the other terms and criteria that a bank would use to underwrite your mortgage application would likely become more stringent.
3. We are already near the lowest recorded mortgage rates in history. The lowest weekly mortgage rate on record is 3.3% according to Freddie Mac vs. 3.55% today, or just 1/4 of a percentage point below current levels. That low rate was in 2012, as the Great Recession was fresh on the minds of most households, great economic angst was pervasive in the US and "messy" was still the best way to describe the global economy, particularly in Europe. For those that love simple math, the highest record rate, over the last 40 years, was 18.5% back in 1981. A median between the highest and lowest rates is 11%, but that number is irrelevant considering everything that has happened in the global economy over the last 30-40 years. Altogether though it is safe to say that it may not be worth waiting for much better rates without taking on more and undue risk of missing a sound opportunity to refinance.