What is the cause of interest rates increasing over the last few weeks? Convexity selling by bond traders is the cause.
Here is how it works:
When Fannie Mae sells bonds the prices of those bonds are what determine your interest rates. This creates convexity selling and buying the buyers of these bonds are typically bond funds. The portfolio managers in bond fund must state their objective of the bond so that investors know what to expect when they buy the bond. The longer term the investment the greater the return needs to be. The shorter term of a bond a smaller return is expected. Generally, these bonds are 30 years, does that mean the investors money is going to be out there for a full 30 years? No. People may refinance or sell their home.
When we see interest rates going up fewer people are going to end up refinancing because of the higher interest rates. If fewer people refinance then that increases the duration of their average bond. When this increases their duration the portfolio managers have to find a way to shorten the duration on some of their bonds by selling bonds in their portfolio to shorten their average duration.
One of the best solutions for this would be a FED rate hike because this will help curb inflation. Doug predicts that we are going to start seeing inflation tick up and if the FED would hike rates then the market would like that because inflation would go down. The market is taking matters in to it’s own hands right now since investors have to be compensated for rising inflation. It erodes the return on their fixed rate investments. If you have a bond with a fixed return over a 30 year period of time and there is inflation then your bond will become devalued and your fixed return will not be worth as much because it cant keep up with inflation. If the FED hikes rates before the end of the year we will see long term interest rates go down.
If you are in the process of looking for a house right now you have to make sure you time these cycles very well. If you get pre-qualified at a certain rate that may not be the rate you end up with by the time you find a house. It is extremely important that you have professional advice in this area. Cornerstone Mortgage has an advantage because it is agency direct, which allows us to offer lower rates. You also have the opportunity to work with a professional expert that can protect you from the market. Your mortgage should literally weave into your long and short term financial and investing plan. Doug can help you form a debt strategy that will lead to wealth creation. You can call/text Doug anytime at 314-472-DOUG(3684)
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