As 10 year Treasury yields spike, local mortgage rates will matter more

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Government bond market fluctuations have renewed concerns about rising mortgage rates and may prompt borrowers to take more notice of what mortgage lenders are charging on a local level.

The yield on the 10-year Treasury bond — which serves as the benchmark for mortgage interest rates — is nearing 3% for the first time since December 2013, amid ongoing concerns about inflation and large-scale auctions of short-term Treasury notes this week that's adding a glut of supply for government debt. The recent bond market volatility already prompted Fannie Mae to revise its outlook for mortgage rates, while housing experts are also concerned about how recent tax reform legislation will affect home prices.

"Typically when the 10-year Treasury moves around a lot, you'll see mortgage rates follow," said Leonard Kiefer, deputy chief economist at Freddie Mac.

"The rate [consumers] are likely to get on a mortgage is going to tie very closely to what happens with the 10-year," he added. "It's not exactly one-for-one, but if you look historically week-to-week, the correlation is super high, so an increase in the 10-year yield is going to mean higher mortgage rates in all likelihood."

But Tuesday's bond market activity didn't immediately produce significant swings in mortgage rates.

"Today was fairly uneventful," in terms of pricing, said Andrew Weinberg, the principal at Great Neck, N.Y.-based mortgage broker Silver Fin Capital. Even a lender Weinberg works with that normally reprices quickly on sharp market movements only repriced once on Tuesday.

Normally most secondary market lenders will reprice at a minimum once a day. Portfolio lenders will let their rates remain unchanged for a longer period of time, days or even weeks because they are less sensitive to changes in the 10-year yield.

"Some lenders can literally reprice three and four times a day, they are very responsive to changes in the 10-year market and the secondary market as well," Weinberg said. Because conforming and government lenders have much thinner margins and a different business model than portfolio lenders, "they're passing on those changes very quickly."

And it may take some time for recent bond market activity to be reflected in mortgage rates throughout the industry.

"The TBA [to be announced mortgage-backed securities market] didn't move significantly, so we're not going to reprice today. But whenever the 10-year moves, we end up moving pretty quickly too," said Jeff Bode, president and CEO of Mid America Mortgage, a retail lender and correspondent investor based in the Dallas suburb of Addison, Texas.

"We typically reprice about three times a month," he added. "Today, we wouldn't have repriced because it's been fairly flat…We wouldn't reprice today just based off what the 10-year's doing."

But when rates do rise, just how high they will get will vary by location. Regulations restrict how high rates can get and, in some cases, disparate treatment of regional markets. But lenders, as well as the government-sponsored enterprises that buy loans from them, do price for local loan risks in ways that lead to minor regional variations in mortgage rates.

"There are some small pricing differences across states," said CoreLogic Chief Economist Frank Nothaft.

For example, states that require foreclosures to go through a judicial process may have higher rates than those that don't. That's because foreclosing through the courts is more costly and lenders will charge more to account for this.

Loan balances are another factor that can lead to differences in rates, not only at the state level, but also in individual local markets. Lenders' fixed costs account for a higher percentage of the variable revenue earned from a small-balance mortgage. So lenders have to charge higher fees to generate the same profit they would make on a larger loan.

Lenders also charge more to offset risk when low credit scores suggest a borrower has a less-than-perfect payment track records.

Because higher paying jobs tend to be concentrated in urban areas, low credit scores and loan balances often exist in rural locations. This can lead to higher market rates for mortgages there, although government programs aimed at helping rural borrowers afford homes do exist.

"When looking in rural areas, you do see a little bit higher rates, and that is usually a function of smaller loan size and credit score," said Fannie Mae Deputy Chief Economist Mark Palim.

Within major metropolitan regions, location can make almost as much as a 50-basis-point difference in mortgage rates, according to Federal Housing Finance Agency data.

The average rate for closed loans in the San Diego metropolitan statistical area, for example, was 3.74% in the fourth quarter of 2017.

At the other end of the scale, the Kansas City MSA's average rate during the same period was 4.23%.

But adjusted to hold loan product type and other underwriting factors constant, the differences in regional mortgage rates tend to be smaller, said Nothaft.

While 30-year mortgages are the dominant loan type in most parts of the United States, the percentage of short-term loans with lower rates is higher in some markets than others. This distorts the comparisons made by averaging all mortgage rates in a region.

A broader regional breakdown for 30-year mortgage rates shows there is no more than a 13-basis-point difference in various parts of the country.

Mortgage rates were already near four-year highs in the latest Freddie Mac weekly mortgage rate survey.

Rates were lowest in the West, where they averaged 4.31%, according to Freddie Mac's latest weekly survey. The highest average rate was in the Southwest at 4.45%, followed by the North Central part of the country, at 4.41%; and the Northeast, at 4.37%.

Regional variations in loan costs are greater when it comes to upfront fees and charges for loans, Nothaft said. Upfront fees and charges can differ by more than 1%, according to FHFA data.

— Brad Finkelstein and Elina Tarkazikis contributed to this report.

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Treasury bonds Mortgage rates Underwriting Secondary market MBS Securitization CoreLogic Fannie Mae