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Wednesday, July 23, 2008


rising interest rates too?

you wouldn't think it could get more bleak -- the collapse of securitization and shadow banking, a foreclosure meltup, failing banks, the blackest consumer outlook in 30 years, government bailouts of GSEs, energy commodities near (hopefully past) all-time-highs, collapsing margins driving the year of the corporate default, sharply rising unemployment, recession taking a strong hold over most of the country, overlevered individual cash flow and balance sheets under intense pressure all the way up the scale, financial troubles now spreading globally through the conduits of globalized finance and trade -- what more could go wrong?

let's try interest rates.

i noted the other day freddie mac's plans to draw back from the loan purchasing that currently is the only fuel for american home sales. that is likely to have the effect of reducing mortgage credit and raising mortgage rates.

what i didn't note, however, is that the anticipation of that inevitable withdrawal -- in conjunction with the now-near-complete withdrawal of private capital from mortgage lending -- has already sent mortgage interest rates skyrocketing. and today so reports both the wall street journal, new york times and the mortgage brokers association.

the trend, it must be said, has been in place since the deflation scare of mid-2003. a check of the mortgage-x rate chart shows that rates on conforming 15- and 30-year fixed rate mortgages is near the highs of the last six years -- in particular spiking in the last week. as the times chart here shows, riskier jumbo rates have gone through the roof.

for context, we should put this in terms of cash flow -- in other words, how have these changes affected purchasing power for buyers with a certain amound of income to dedicate to housing?

per bankrate -- for a conforming 30-year fixed, rate have jumped to about 6.5% from 5.8% in may and 5.4% three years ago (in 2005, at the height of the boom).

using bankrate's housing affordability calculator, let's input a fiscally responsible party with $120,000 in gross annual income, $30,000 in down payment saved, no other debt whatsoever. rules of thumb suggest a mortgage payment of about $2800 might be the upside limit.

at a 5.4% rate, this party with that payment could finance a $525,000 home -- at 5.8%, that becomes $507,000 -- at 6.5%, it's $470,000. that's a 10% cut in purchasing power from three years ago, and a 7% cut in just the last eight weeks. and of course that's not the end of the obstacles, for many mortgage makers are protecting themselves now in the midst of declining asset values and shaky financial conditions for mortgage insurers by requiring 20% down payments. that puts our hypothetical party into wait-and-save mode, as 20% of a $470k home is $94k.

but in truth this isn't the real story for this kind of buyer, as the loan size they are contemplating above puts them into the jumbo mortgage market -- where risk and rates are higher. for a jumbo 30-year fixed, rates have moved to 7.5% from 7.0% in that same eight-week span and about 5.7% in 2005. the upshot is that purchasing power has come down from $512k in 2005 to $450k eight weeks ago to $430k today -- a 16% reduction from the boom.

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