Thursday, July 1, 2004

Mortgage rates
not tied to Fed

The Fed has raised interest rates but that doesn't mean the sky is falling for local home buyers -- at least not yet.

Mortgage rates have actually eased in the past few days and may come down further in the short-term, despite the Federal Reserve's announcement yesterday that it would raise its benchmark lending rate by 25 basis points to 1.25 percent.

"It's counter-intuitive, but we could see (mortgage) rates go down further," said John Gray, Bank of Hawaii executive vice president and manager of mortgage banking.

That apparent contradiction stems from that fact that mortgage rates are not tied to the Fed rate, but to the yield on the 10-year Treasury bond, generally running about 1 to 1.5 percentage points higher than the yield on that security.

And the yield on the 10-year bond dropped from about 4.75 percent earlier this week to around 4.6 percent yesterday in a sign the market was not overly concerned about the move by the Federal Open Market Committee, which sets Federal Reserve policy.

Following suit, the interest rate on a standard 30-year fixed-rate mortgage, which has wobbled at or above 6 percent in recent months, slipped lower yesterday.

Several local lending institutions were advertising a rate of around 5.875 percent for a loan that charges 2 points. That's down from a rate of around 6 percent a day earlier. The lower interest rate translates to a roughly $30 reduction in the monthly payment on a $400,000 home. Alternatively, a buyer who opts to stay at 6 percent and pay fewer points would have saved $2,000 in up-front costs.

Mortgage experts said the Treasury market appeared to have overreacted in recent weeks when pricing in the expected Fed rate hike. The market then corrected itself after seeing that the rate hike was not larger and that the Fed's announcement stressed a continued "accommodative" stance toward economic growth.

"Many took that as a sign that inflation wasn't viewed as a big concern," said Bankoh's Gray.

The Federal Reserve uses interest rate hikes as a way of keeping inflation at bay.

However, with economic growth picking up pace, the Fed has signaled that a series of "measured" interest rate hikes was in the future, which is expected to put long-term upward pressure on mortgage lending rates.

"We'll see mortgage rates drift up because the Fed is tightening," said Leroy Laney, professor of economics and finance at Hawaii Pacific University.

Laney said many home buyers might opt to seize on rates in the coming weeks and months out of fear that they're headed higher, but major rate-sensitive pillars of the economy such as construction aren't likely to be affected.


Borrowers, savers won’t
see big changes in their
rates right away

NEW YORK >> The Federal Reserve's decision yesterday to start raising rates means savers will earn more interest on their bank accounts and debtors will pay more interest on their credit cards and home-equity lines of credit.

But not a lot, at least in the short term.

"We're not talking about drastic action here," said Gary R. Thayer, chief economist at A.G. Edwards & Sons Inc. in St. Louis. "We're talking about small, incremental changes."

The Fed raised a key short-term interest rate by a one-quarter percentage point to 1.25 percent, its first rate increase in four years, to keep inflation at bay as the economy picks up steam.

Savers, whose accounts have been earning 1 percent or less in interest in recent years, are eager for higher rates.

Edward Cunningham, a retired corporate finance officer living in Madison, Wis., said the low rates were "terrific if you wanted to take out a mortgage ... but punishing if you were a saver."

Cunningham, 83, said he found an online money market deposit account that pays 2 percent and expects the rate "to go up a little, but not much" after the Fed's move.

The fact is, a quarter of a percentage point increase in interest translates to just $2.50 per $1,000 in savings per year.

Borrowers, meanwhile, will have to pay more. The place Americans will most feel the rate increases is on their credit card debt, which currently totals some $750 billion, according to Fed data.

About half of the credit cards in the country have variable rates, which "will go up in tandem with the prime rate, which is driven by what the Fed does," said Robert McKinley, chief executive officer of Inc. in Frederick, Md., which publishes data on credit and debit cards.

Cardholders could see the higher rates as early as July, he said.

"For consumers who got kind of drunk on those 'zero percent' offers, this is a sobering up time," McKinley said. Most of the zero percent cards, which promise no interest on balance transfers or new charges for a number of months, eventually reset at interest rates of 12 percent or more.

Consumers will find far fewer zero percent offers and other specially priced cards as rates rise, McKinley said.

While home equity loans are generally issued with fixed rates, home equity lines of credit have variable rates. These, too, are expected to begin going up in coming months from their current national average of about 7 percent.

Home mortgages and other long-term debt are not directly affected by the Fed's moves to raise short-term rates. But mortgage rates have been rising in tandem with longer-term investments as the economy strengthens and inflation rates creep up.


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