Can You Believe the Mortgage Rates You see in the Paper (or on the Internet)? Why Advertised Mortgage Rates are "Never Right" – Factors Affecting Mortgage Pricing – Part 2
13th June 2009
(This is an update of a previous blog post)
The one question I am asked more frequently than any other is, What is your rate? This is a great question because you obviously want the lowest rate, but it’s a question that is impossible to answer. First of all, the rate will depend on what type of loan you are getting, whether you want to pay extra money in points and fees to get the best rate (which is what happens with the low rates you see in ads). Even if you were comparing apples to apples and making sure the loans are priced the same way, you can’t compare mortgage rates without without taking into account all the factors in your personal situation which go into pricing a loan. When
a lender takes on a new mortgage their goal is to minimize their risk and make sure that they are getting paid for the risks they are accepting. Some loan characteristics increase the chance that the borrower will default on their loan, costing the lender money. Over the last year Fannie Mae and Freddie Mac, the buyers of most conventional loans, have instituted a whole new series of price hits called LLPAs or loan level price adjustments, based on situations they consider more risky. This means that loans that fit into these situations will cost more than other loans. These price hits can be paid as extra fees at closing, or by increasing the rate on the loan.
Here are some of the things that factor into the price of a loan, and how I price out my Illinois Mortgage Rates:
Credit scores – Fico scores are a measure of how likely a borrower is to pay back the loan. It used to be that if you qualified for a conventional loan (a loan that was eligible for purchase by Fannie Mae or Freddie Mac) your pricing would be the same whether your score was in the low 600s or the high 800s. If you didn’t meet these guidelines you could still get a mortgage at a higher rate, but these were considered Alt-A or sub prime loans. Now you will need a score above 780 to get the best interest rate and if your score is below 680 the price hits will be substantial (if your score is below 680 you may be better off with an FHA loan). In order to quote an accurate mortgage interest rate, we need to know your Fico score first. This makes it all the more crucial to review your credit and work on any problems before you are ready to apply for a loan.
Loan type – Even when comparing 30 year fixed rate loans, there are a whole variety of programs available, each to meet specific needs. The pricing changes based on the loan type. Conventional loans (Fannie and Freddie) are good up to $417,000 for a single family home. If your loan is above that you would most likely look at a Jumbo loan. Jumbo mortgages are not able to be sold to Fannie Mae and Freddie Mac and they are priced much higher. If you qualify best for an FHA loan, the pricing would be different.
LTV and CLTV – This means the Loan to Value and the Combined Loan to Value, or how much is the mortgage compared to the value of your home, and how much if you include any other mortgages on that home. This is another way of stating how much equity you have in your home – the higher the equity, the lower the loan to value. And the less equity you have, the higher the risk is to the lender. This is tied in with your credit score, and if you are buying with a lower down payment, this could make a big difference in your rate. Are you buying with a second mortgage added on? In the past this has been a great way to buy with less money down and avoid mortgage insurance. It is harder to do in many cases now, and you may pay more on your first mortgage if you have a second loan attached.
Loan purpose – Are you buying a home or refinancing? If you are refinancing your home and taking cash out, it would cost you more if your loan to value is greater than 70% (less than 30% equity). A purchase or a rate term refinance would be priced the same.
Occupancy – Is this your primary residence, a second home or an investment property? You get the best rates and fees for your primary residence. Second home loans are often the same, but in some cases they can be slightly higher. Investment property is looked at as a riskier type of loan and investors are more likely to walk away from a bad investment, than home owners are on their homes. So there are higher rates and fees when you buy non-owner occupied or investment homes.
Type of property – Mortgages for single family homes are are priced better than loans for two, three or four unit homes. In one of the biggest changes, you will pay more if you buy a condo with less than a 25% down payment. (Here is more information on Chicago condo loans)
Loan amount – On conventional loans, pricing is usually better for larger loans. It costs the same to process and close a small loan as it does for a larger mortgage. Because of this the pricing improves on loans over $200,000. On the other side, loans under $100,000 have increased fees, and the fees go higher as the loan price drops.
Property location – There are some areas in the city of Chicago and in the Chicago suburbs that are considered target areas. These neighborhoods are targeted for redevelopment and banks are encouraged to lend in these areas – more than encouraged, they have to have to lend a certain amount in low income areas or they could face big problems with the federal government. Because of this pricing in these areas is better. The original idea here was to offer more homes for low and moderate income borrowers. Often the areas marked for redevelopment are the hot areas where prices are rising. Make sure your loan officer checks to see if you are in a CRA or targeted area.
Buying out of state the pricing can be different, too. I specialize Illinois Mortgages, but also close loans in most states. The wholesale lenders have different rates for each state.
Length of the rate lock – You will get better pricing for a 15 day rate lock than if you locked your rate in for 60 days. The longer the rate is locked in for, the greater the risk to the lender, so they pass the cost of hedging the loan on to you.
Escrows – Mortgages are usually priced so that the end lender will hold your escrows for taxes and insurance, collect 1/12th of the payment from you every month and pay the bills when they come due. Many borrowers want to pay these bills themselves and earn the interest on their money until the bills come due. You can do this if you meet certain guidelines, but it will cost you. Most lenders charge a quarter point fee if you waive your escrows. On a $300,000 loan this is an extra cost of $750.
Pre-payment penalty – If you know you aren’t going to be moving or refinancing for a while, you can sometimes get a lower rate by agreeing to pay a pre-payment penalty. This will lower your costs, but it also handcuffs you into staying in the mortgage. If you end up moving or refinancing before the time expires, it could cost you a lot.
These are some of the things that factor into the rate and cost of a mortgage. Even bigger though is how the loan fits your needs and what you qualify for best. It doesn’t make any sense to shop the rate on a conventional mortgage if you can only qualify for FHA. Also, make sure you look at the bigger picture, not only the interest rate but the costs of the loan and how the financing works for your personal situation.
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in full rally mode now, which means 
Mortgage bonds improved most of this week, but after the worse than expected employment numbers bonds actually ended the day worse than where they started. Still, it was a major rally for the week, and some profit taking by traders is expected. Technical indicators show that we may have some more room to run. One unknown is how low oil prices will go. Some analysts doubt that they will go below $100 per gallon. If they do OPEC could shut off the spigot and reduce supply to keep prices high. That may be harder to enforce than it has in the past, and with the economy slowing they may need to cut back a lot to keep the price propped up. What this all means is that if you are in the market to buy a new home, you may have better rates in your future, and if you’ve been thinking about refinancing but weren’t able to get it done when the rates were lower, you may be about to get a second chance. Either way, if you need help, give me a call.
steps back and other weeks it is exactly the reverse. In other words 
that that is not the case. The economic downturn we have been seeing is now spreading world wide. Another suggestion that rates should be going down.
The biggest mover of 
the threat of inflation. Wall Street wasn’t happy with the decision. The Dow hit a low just ticks away from a 20% overall decline, the official mark of a Bear market. Not only did the Fed not raise rates, but their announcement balanced the threat of inflation with the threat of further slow downs in the general economy. This signaled that the Fed plans to stand pat, keeping rates the same until something forces their hand. The stock market dived and mortgage bonds benefited. Mortgage backed securities moved through an area of strong resistance Friday afternoon, ending the week at their best level in the last 3 weeks.
In other economic news, consumer confidence this week came in at the third lowest reading ever, and the lowest since 1980. Oil prices surged again, now up to $142 per barrel. Personal spending for last month was the best reading in the last 5 months, but if the stimulus checks are gone this is probably not a trend. New and existing homes both came in a touch better than expected, but still at low levels. Sales of homes in the Chicago area were down 29% from last year, but up from the previous month. Prices here seem to be stabilizing. The core inflation rate showed we are just over the target zone, giving the Fed some cover for their decision not to raise rates. Here in Illinois, Attorney General Lisa Madigan sued Countrywide Mortgage for abusive loan practices. I have mixed feelings on this one. I’m not a fan of Countrywide. As a company they have been arrogant and they were the leaders in some of the bad practices that got us into this whole mortgage mess. I also like Lisa Madigan. She’s done a good job as Attorney General, and I expect that she will be our next Governor. But that’s the point of this, it’s all political. Countrywide is a big target and an easy way to score political points, but unless they can show it was a corporate decision to defraud customers, I don’t see this going anywhere. 
credit were choking the system. Big banks and financial powerhouses were on the edge of failure and our whole economy was in the danger zone. The Fed moved decisively to inject credit into the financial markets and stem the panic. Wall Street breathed a sigh of relief, but the easier credit didn’t trickle down to the small business or home mortgage markets. On Main Street the stranglehold still seems pretty tight. The economy hasn’t been growing, but with the rate cuts and stimulus checks there have been some signs of activity. And now with gas and food prices spiking up, the worry has turned from the softness in the economy to the threat of inflation. Over the last few weeks mortgage rates headed higher as the financial community, in mass, called for higher rates to stop the inflationary spiral that was about to hit us. Last week it became official that the economy was on the road to recovery when former Fed Chairman Alan Greenspan announced that the credit crunch was over, or would be soon. This week a new message is coming through – not so fast, we might not be out of the woods yet.
Here are some more things to be aware of:
Pre Payment penalties: Another thing to watch out for is a pre-payment penalty. This is when the mortgage contains a clause that states that you will have to pay an extra penalty if you get out of the mortgage within a certain period of time, either through selling the home or refinancing. Some mortgages have pre-payment penalties built in, but many more conventional loans offer the penalties as an option – that is, you can get a lower rate if you agree to take a pre-payment penalty. If you know that you won’t be moving, and you’re convinced that rates won’t drop and give you an opportunity to 
Much of the inflation is due to the high demand for commodities in developing countries overseas. India and China have been booming and they are growing a huge middle class. This brings a desire to increase their standard of living, which means more cars on the road and an improved diet, so food and fuel prices go up. This trend will be with us for a while, but there are signs pointing to a slowdown in Asia, and if there is this will reduce inflation by itself. The other thing that makes me think this will come down on its own is the trading activity. I have a friend who is a trader at the Chicago Mercantile Exchange where he trades contracts for cattle futures. Futures contracts are traditionally used as a hedging device. So if McDonalds wants to lock in the price of their hamburgers 9 months from now, they buy contracts on the exchange and they know what their costs will be going forward. This exchange has traditionally been used by farmers and food producers to take some of the ups and downs out of the market and measure their risk. So who are the big buyers of cattle futures today? They’re not food producers; they are financial companies, some of the same big players who created the bubble in the mortgage market. They are buying futures in all the commodities from grains to oil. The reasoning is sound. Prices are going up, so they need to buy the futures and take advantage of the rising prices. Only their buying divorces the price from any fundamentals of supply and demand. Food and fuel prices are in a bubble now, and at some point this bubble will pop and prices will go down. The question is when, and it could get much worse before it gets better.
inflation and recession have been pretty much equalized, and though there were extreme moves on a day to day basis, it seemed that by the end of the week the market was back close to where it started. That changed this week as mortgage bonds fell out of bed and out of this range sending mortgage rates higher. There were economic indicators cited as reasons behind the move, but these indicators aren’t saying that the economy is back on track, and they aren’t pointing to raging inflation either. The indicators are mixed, as they have been over the past months, showing our economy is still muddling along and inflation is a factor, but more of a future threat than a present menace. So it’s not that the economy has suddenly changed, it is the perception 
I think these are all accurate predictions – if oil keeps going higher – but if history is a guide, I think it will be a while before we see any of these predictions come off in a major way. Oil prices were around $90 per barrel at the beginning of the year, so we have had almost a 50% increase since then. The question is whether the prices will continue to climb and, how far will they go. My guess is that we will have higher gas prices long-term, but there are reasons to think that prices will come down some first, and that we will get used to higher prices.