Greenspan tries to nudge rates higher
By Holden Lewis - Bankrate.com

Alan Greenspan wants to push mortgage rates higher, so he's going to keep raising short-term interest rates. But he's not positive the tactic will work because he says he doesn't understand why mortgage rates are still so low.

Indeed, the 30-year mortgage rate has remained below 6 percent for the 15th week in a row, despite a modest rise. The benchmark 30-year fixed-rate mortgage rose 2 basis points to 5.78 percent, according to the Bankrate.com national survey of large lenders. A basis point is one-hundredth of 1 percentage point. The mortgages in this week's survey had an average total of 0.38 discount and origination points. One year ago, the mortgage index was 6.06 percent.

The 15-year fixed-rate mortgage rose 3 basis points to 5.39 percent. The 5/1 adjustable-rate mortgage rose 5 basis points to 5.4 percent.

The last time the 30-year fixed was above 6 percent was the week of April 6, when it averaged 6.02 percent. It has been 6 percent or higher just six times in the last 52 weeks. During that entire time, the Federal Reserve, of which Greenspan is the chairman, raised short-term interest rates by 2 percentage points. He told Congress on Wednesday that he plans to continue raising short-term rates.

Greenspan called the drop in long-term rates over the past year "especially surprising," given the increase in short-term rates. "Such a pattern is clearly without precedent in our recent experience," he said. What Greenspan said after that was more description than explanation.

He said global economic forces are responsible for what's happening with rates: lower inflation expectations, a moderation in the business cycle, and a worldwide "excess of intended saving over intended investment." In the consumption-crazed United States it's hard to imagine that there are places where people save too much, but that's the case in some Asian countries, Greenspan said. He didn't name them but he was looking at China and South Korea.

Other global forces are at work, too, says Bob Moulton, president of Americana Mortgage, a brokerage in New York. "Unfortunately, what I heard was those recent attacks in London are going to keep our yields lower than anticipated because our Treasuries are still viewed as a safe haven for foreign investors," he says.

Long-term mortgage rates tend to move up and down with the yields on 10-year U.S. Treasury notes. When investors get scared of global instability, they tend to buy Treasuries because they are considered the world's safest investments. Investors call this the "flight to quality." High demand for Treasuries decreases their yields -- and mortgage rates fall, too.

As Greenspan noted, long-term rates have gone down even as short-term rates have risen. As a result, rates on 5/1 ARMs are barely below the rates on 30-year fixed-rate mortgages. Normally you expect to see a bigger gap.

"It makes a strong case for people getting fixed-rate loans, which they're doing," says Peter Bonnikson, head of mortgage operations for E-Loan. About two-thirds of E-Loan's purchase loans are fixed-rate, and that rises to 80 percent of borrowers who are refinancing.

About 80 percent of the refinancers are doing cash-out refis, in which the new loan is for a larger amount than the previous balance, and the homeowner pockets the difference.

With rates where they are today and where they seem destined to go, it makes more sense to do a cash-out refi at a fixed rate than to get a home equity line of credit with a variable rate that will, invariably, rise.

No doubt a move toward fixed-rate mortgages would please Greenspan, who said Wednesday that the "increase in the prevalence of interest-only loans and the introduction of more-exotic forms of adjustable-rate mortgages are developments of particular concern." He worries not only that borrowers will default on "exotic" ARMs, but that these loans are encouraging home buyers to pay more for houses than they're really worth.

-- Posted: July 21, 2005