50 point cut

[CarlsbadMtnBiker]

“Bank of America Corp. has lowered its prime-lending rate to 7.75 percent from 8.25 percent, effective Tuesday.
I am as ignorant on these topics as the next guy, but isn’t prime rate the rate at which the bank lends short-term money to credit cards and such rather than mortgage?”

Yes,

The prime rate, as reported by the Wall Street Journal’s bank survey, is among the most widely used benchmark in setting home equity lines of credit and credit card rates. It is in turn based on the fed funds rate, which is set by the Federal Reserve.

[Sandi Egan]

Do Fed Funds rate correlate with indexes commonly used in Mortages ? They sure do.
I think there are two different concepts here.
FFR directly affects any other short-term rate, including ARM post-reset rates, usually tied to LIBOR. It is much more disconnected from long-term rates.

When translated to the housing market it means:

1. People with resetting ARMs get a huge bailout-like break.
2. People who are on the market for a home will hardly notice any difference (other than generally better mood at lender’s office)

[(former)FormerSanDiegan]

When translated to the housing market it means:

1. People with resetting ARMs get a huge bailout-like break.
2. People who are on the market for a home will hardly notice any difference (other than generally better mood at lender’s office)

I would agree. Though I think break people might get on their ARM resets will be more like a life-preserver than a “huge bailout-like break”.

I may be in the minority opinion on this, but this is why I think the initial wave of resets which peaks in October and last throughout the first part of 2008 is more important than the second wave (which is spread out for several more years). The second wave will have the presumed benefit of short-term rate declines precipitated in part by the damage to the economy done by the first wave which we are currently experiencing.

[Sandi Egan]

The second wave will have the presumed benefit of short-term rate declines precipitated in part by the damage to the economy done by the first wave which we are currently experiencing.
Exactly!
If your 5-year ARM resets to the same interest rate that was there when you were signing, your monthly payment wouldn’t go up at all (except on interest-only ARMs). That’s a marginal case, of course, but today BB made a big step in that direction.

[carlover]

30 year conforming rates will be down by at least 1/8 of a point tomorrow on average. Take a look at what happened to the Freddie Mac RNY (basically their required rate to purchase a loan) when the Fed Funds Rate dropped.

http://ww3.freddiemac.com/ds1/sell/sffrny.nsf/frmDisplayRNY?OpenForm&prevRNY=02:00PM&RN=7544

At 2PM, before the Fed announcement the rate for a 60 day lock was 6.19%, at the close today after the Fed announcement the rate was 6.03%.

Still anyones guess on what will happen to Jumbo loans but I would expect them to ease by at least 1/8 as well. In the past I haven’t seen a shift in rates like this without a corresponding move down in the 10 year treasury yield. So this reinforces what I posted earlier, that long term mortgage rates may still come down due improved liquidity reducing the historically high premiums on long term mortgage rates relative to treasury yields

For more discussion of this topic, see my original post a few weeks ago at:

http://piggington.com/when_to_lock

[HLS]

Those with ARMS that have LIBOR as an index still have a margin.

Will LIBOR will drop 50bps tomorrow ? I don’t know.

Many ARMS have a +2% point cap on their 1st increase with no neg am.
IF your index plus margin is over that cap, the drop in rate isn’t going to change your increase in rate OR your payment one single penny. It depends on where you are at in your cycle.

A 5% rate with a 2% increase, is going to be a 7% rate.
If your index plus margin on your first reset is 12% or 7.01%, you rate will STILL BE 7%. Often future increases are capped also, so the fact is that the FF decrease may mean not a penny in savings to some.

Some of you seem to know what you are saying or wanting to say. Others may not understand the terms of their loan, which isn’t surprising.

I have callers who insisted that a cut by the fed will be a half point cut to their rate. I sure that many people agree with them.

If you want to know if the cut in FFR is going to lower your ARM payment, do the math, but the answer to the earlier question is that it isn’t going to change your October payment.

I guess I just don’t understand loans, sorry.

PS:
LIBOR = “London Inter-Bank Offered Rate.” Based on rates that banks in London offer each other for interbank deposits. From a bank’s perspective, deposits are funds that are loaned to them. LIBOR is a rate at which London banks can borrow money from other banks. Rates are complicated. There is a 1 month, 3 month, 6 month and 1 year LIBOR rate.

Rates before July 2007 usually reflect the Fannie Mae LIBOR rate which used a different calculation. Fannie Mae discontinued its use and publication of LIBOR rates at the end of June 2007.

[donaldduckmoore]

CMB, I think HLS repeatedly pointed out that the fed fund rate affects lending rates amongst lenders and credit card rates.

[CarlsbadMtnBiker]

“CMB, I think HLS repeatedly pointed out that the fed fund rate affects lending rates amongst lenders and credit card rates.”

yes, I know donald duck,[ that me smile.. 🙂 ]and agree, but his argument posted below is what I am disputing.

HLS wrote: FED FUND RATE and PRIME RATE HAVE NOTHING TO DO WITH MORTGAGE RATES OR ARM RATES

[Anonymous]

Are non-LIBOR ARMs really that rare? My 5/1 is tied to the 1-year Treasury index.

[kev374]

This cut may spawn a mini rally but the long term problems still exist, foreclosures are skyrocketing and I don’t see how this rate cut is going to help people stay in their homes. I also fail to see how this is going to do anything for the lack of credit availability in California because most properties require jumbo loans.

Those with HELOCs may see very slight relief but that doesn’t mean they are going to go out and spend when their home values are going down the toilet.

Bottom line is that consumption is still going to decline and that will spur a recession and there is nothing anyone can do about it. The Fed is not going to lower the interest rate to 1% again.

[Eugene]

so to summarize

Most 30-year fixed loans are tied to 10-year treasury. Today 10-year treasuries profoundly ignored the rate cut and closed 0.01% higher than yesterday. If 50 point cut triggers a run on the dollar, 10-year treasuries will go through the roof.

Most ARMs are tied to LIBOR. LIBOR is generally correlated with Federal funds rate, but it does not have to be. We’ll see soon if it drops anywhere near 50 bps.

Many adjustable-rate credit cards and HELOCs are tied to “prime” rate, which is typically Federal funds rate + 3%.

[(former)FormerSanDiegan]

Are non-LIBOR ARMs really that rare? My 5/1 is tied to the 1-year Treasury index.

No. Currently, 1-year Treasury index is becoming more common. 3-4 years ago, they were primarily tied to the 6-month and 1-year LIBOR.

[HLS]

CMB,
Thanks for playing along.

When I wrote: FED FUND RATE and PRIME RATE HAVE NOTHING TO DO WITH MORTGAGE RATES OR ARM RATES

I was responding to:
Will this affect the October ARM resets on existing mortgages?

Which was a posting related to a 50 bps drop in FF rate.
(If FF rate drops another 50bps or more, wake me up)

And per my explanation above, it WILL NOT help most people with ARMS that have not had a 1st or 2nd adjustment, unless rates continue to fall. I don’t think it is likely that a current 5 YR ARM will not be adjusting upwards in year #6.

There is no ONE index that is used for ARMS. There could be one with a WHOPPER + a margin for all I know.

LIBOR, COFI, TBILL rate etc are common ones.
Price of Countrywide stock isn’t :-0

[(former)FormerSanDiegan]

I have callers who insisted that a cut by the fed will be a half point cut to their rate. I sure that many people agree with them.

HLS – I agree that you are dead on that the vast majority of the general public is clueless about the impact of federal funds rate on mortgages, particularly 30-year fixed rates.
I think your reaction in the first page of this thread reflects that.

Piggingtonians tend to be a bit better edumacated about interaction of changes in short term rates and how they relate to ARM resets and HELOCs. A general trends towards lower short-term rates (which began prior to this rate cut, in anticipation) does historically tend to improve the environment for ARMs. However, as you correctly point out, the devil is in the details. People need to understand the terms of their loan (and also the terms of the loans sitting out there getting ready to re-set) to understand the impact. These things include the Index, Margin, Periodic Cap, Lifetime Cap, etc.

I am merely guessing (based on historical trends)that reduction in short-term rates will improve the environment for some fraction of debtors as their loans re-set.
An interesting issue will be whether the 12-month LIBOR and short-term Treasuries remain as correlated as in the past.
That said, I still think a large chunk of those experiencing re-sets in the next few months are headed for foreclosure.

[cr]

Thanks HLS.

My next question is what’s the best way to invest in Gold?

Also, did anyone see Greenspan on Cavuto today? Greenspan pretty much blatantly denied any responsibility for the housing bubble.

I’ll look for it if no one else finds it.

[Author]

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