Why Aren't Mortgage Rates Getting Lower as Fast as Treasuries?

Yet again, Mortgage Rates improved today.  But the improvements were fairly minor, just as they have been in general despite a healthier rally in Treasury rates.   In some cases BestExecution rates may be lower, but in most cases, the improvements will be seen in the form of lower closing costs for the same rates available yesterday.  The "current market" and "guidance" sections would be the same as yesterday's, so if those are important to you, read them HERE. Today we want to use that space to address this question of why mortgage rates aren't lower considering the record low Treasury rates.

As you might already be aware, mortgage rates ARE NOT based in any way on US Treasuries.  However, IN GENERAL, Treasuries tend to move in the same direction as mortgage rates because of their relationship to the "stuff" that actually does determine mortgage rates: Mortgage Backed Securities, or MBS for short.

Getting into a detailed definition of the MBS Market isn't necessary for the purposes of this post.  If you want to read more about it, you can do so HERE.  What's important to know is that MBS are SIMILAR to Treasuries in a lot of ways.  They're both fixed-income investments, both are in the "less risky" realm of the investment world, although MBS are more complex and their value is subject to certain factors that DO NOT AFFECT Treasuries. 

In short, the PRICE and YIELD of MBS are the basis for mortgage rates.  This equates to the raw pricing that lenders are dealing with in order to lend you money.  But lenders can't simply offer mortgage rates based on raw MBS pricing because they wouldn't make any money, and they gotta make some if they're going to keep offering mortgages!  This is where a subjective component enters into mortgage rates.  There are several factors that affect profitability which lenders attempt to account for in deciding the ideal amount of cushion between raw MBS and mortgage rates (also known as primary/secondary spread). 

Actually, we could probably write a whole series on those factors but we'll focus on a few of the "biggies" for today.  First of all, we've already been mentioning VOLATILITY as a reason for a discrepancy in rates from lender to lender.  Bottom line: volatility makes things more expensive for lenders.  They absorb some of that cost with lower profits and you absorb some with higher mortgage rates than you might otherwise see in a lower volatility environment. 

Beyond volatility, this whole rally in the fixed-income world (bonds, Treasuries, MBS, etc...) has been very fast and abrupt.  That has created capacity constraints for lenders who can only really raise rates in order to deter the new business they can't handle.  Additionally, if rates get low too quickly, lenders may lose commitments from borrowers who now seek a lower rate.  But the lender has already "accounted for" that new mortgage in their pipeline when you locked your loan (meaning they've promised to sell into the MBS market using your loan as part of that MBS).  When that happens, it costs them more money to readjust and consequently will cost future borrowers more money in the form of slightly higher rates. 

These are just a few of the reasons why you're not seeing mortgage rates fall as quickly as Treasury yields.  It's a whole different world-a deep dark rabbit hole of financial complexity.  Today's post only begins to scratch the surface, but if it's helpful, let us know and we'll do more.  Or let us know if you have questions about this one and we'll follow up on those.