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October 16, 2008

Unintended Consequence: Mortgage Rates Spike Economy

The financial crisis is like an air bubble under the linoleum: you push down on it here and it pops up over there. FT (via Across the Curve):

US mortgage rates have soared this week in an unexpected reaction to the latest Treasury financial rescue plan, which has prompted investors to buy bank debt and sell bonds backed by home loans.

Interest rates on 30-year fixed-rate mortgages...rose to 6.38 per cent on Thursday from 5.87 per cent last week - before the Treasury said on Tuesday that it would take equity stakes in banks and guarantee new bank debt.

Investors responded to the new guarantee by buying existing bank debt, reckoning it could be refinanced with the new government-supported bonds. As they did so, they sold lower-yielding paper issued by Fannie Mae and Freddie Mac, the mortgage companies put into government conservatorship last month.

The sales of Fannie and Freddie paper pushed up yields on their debt, which is backed by mortgages. This, in turn, pushed mortgage rates to levels not seen since the government took over Fannie and Freddie on September 7.

Fannie and Freddie had been taken into conservatorship by their regulator to help keep mortgage rates low and – it was hoped – revive the housing market.

However, the opposite is now happening, making it more difficult for struggling homeowners to refinance their mortgages and for prospective homebuyers to get financing. As a result, house prices may fall further before they find a bottom.


Still no free lunch.

Posted by Jonathan at October 16, 2008 10:53 PM  del.icio.us digg NewsVine Reddit YahooMyWeb