A Refinance Opportunity Has Emerged Now That Mortgage Rates Have Declined

5 Year History Of The Treasury Yields

The last time I refinanced my oldest rental property was in the Fall of 2011 (see red oval). I locked in a 3.375% rate for a 5/1 conforming ARM, which means I have until 2016 before my interest rate adjusts upwards or downwards. With a payment of $1,300 a month – $550 of which goes to principal -I’m not too worried about rising rates because the property generates $3,800 a month in rent.

I had the opportunity to refinance again in May 2012, but felt it was too much of a hassle to save $1,070 in interest a year so I didn’t. In retrospect, I should have just gone through the estimated three month long refinance process because the savings would be $1,070 X 5 years = $5,350 and I would have a year longer fixed interest period. Every dollar counts when you are no longer working.

WHY INTEREST RATES ARE MOVING

Since the Spring of 2013, interest rates have surged higher as investors dumped Treasuries due to a “risk-on” mentality in equities. In other words, investors were willing to take on more risk for higher returns in equities since Treasuries yielded under 2%. Wide anticipation of tapering by the Fed and expectations for higher inflation also led to a sell-off in bonds causing rates to go higher. At one point, the 10-year yield climbed close to 3% from just 1.62% six months earlier. Bond funds were absolutely hammered, including REITs.

Treasuries have since rebounded as investors took advantage of higher yields and asset allocated towards safety with the stock markets at record highs and the government in complete disarray. At the time of this writing, the 10-year yield is now at 2.59%, meaning mortgage rates have come down around 20-30 basis points on average. We’re talking $200-$300 in interest savings for every $100,000 borrowed.

If the last time you refinanced your mortgage was July 2011 or earlier (see chart), you will likely be able to lock in a lower rate even if the 10-year yield was the same as current levels because lending margins have also come down. In other words, banks are not charging as high a spread between their lending rate and cost of funding because the economy has recovered and competition has heated up.

When I refinance I always check with two sources: 1) My main bank and 2) Online through LendingTree because they have the largest network of mortgage lenders on the web. This is a great way to ensure getting the most competitive mortgage rate possible as I basically pit them against each other.

The latest rates I see online are:

4.25% 30-year fixed,

4.5% 30-year fixed jumbo

3.35% 15-year fixed

3.57% 15-year fixed jumbo

3.45% 5/1 ARM

3.15% 5/1 ARM jumbo.

Notice how the jumbo 5/1 ARM rate is much lower than a conforming 5/1 ARM. The reasons are several: 1) Conforming loans are being handled by Fannie and Freddie, government entities which are looked unfavorably upon, 2) Less wealthy mortgage borrowers are deemed lower quality debtors than wealthier borrowers, hence higher lending spreads 3) A five year fixed term is in the sweet spot of the rate curve based on expectations of the Fed and interest rates. Read: 30-year Fixed Or Adjustable Rate Mortgage for more of why I’m a proponent of ARMs.

Mortgage departments everywhere have been decimated due to the rise in rates. You’re seeing shutdowns and mass layoffs by Wells Fargo and Bank of America for example. As a personal finance blogger, I’ve also seen a 60% decrease in the number of visitors checking for the latest rates as well. It now looks doubtful that the 10-year yield will get back to 2%, unless there is massive global unrest and a 10%+ sell-off in equities. My guess now is we’ll hover in the mid-2% range for a while until all the government debacle gets sorted. Then it’s probably a gradual march higher back to the 3% level.

The more carnage in equities the lower interest rates will go most likely. If you are waiting to refinance, you might even perversely hope for the debt ceiling not to be raised, although the principal value of your property will also decline as a result.

10 Year Treasury 6 Month Chart

Note: If you are a bond trader, refinancing now or getting a new mortgage is like going short bonds. Your locked in mortgage appreciates in value as bonds decline and interest rates rise and vice versa. So the main question as a bond trader now is whether you think interest rates will continue to fall (wait to refi), or whether this month long decline in interest rates is only temporary (refi now). Of course if you are a buyer, you don’t care as much as you do locking in your financing to get the purchase squared away. 

Recommendations

Check Your Credit Score: Take a moment to check your free credit score through GoFreeCredit.com, a company I trust. 30% of credit reports have errors, which could put a serious hamper on your refinancing or new loan borrowing abilities. I had a $8 late payment I didn’t even know I owed crush my score by 100 points come up during my last refinance. Find out what your credit score is before applying so you don’t waste time.

* Refinance Your Mortgage. LendingTree Mortgage offers some of the lowest refinance rates because they have a huge network of lenders to provide mortgage loans, home equity loans, and home equity lines of credit. If you’re looking to buy a new home, consider using LendingTree to get multiple offer comparisons in a matter of minutes. When banks compete, you win.

Regards,

Sam

Sam started Financial Samurai in 2009 during the depths of the financial crisis as a way to make sense of chaos. After 13 years working on Wall Street, Sam decided to retire in 2012 to utilize everything he learned in business school to focus on online entrepreneurship.

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Comments

  1. moneystepper says

    In this period of unprecedented interest rates is a great time to refinance over the long term.

    In the UK, the maximum mortgage length is 10 years and currently the cheapest available for a rental property is 3.89% (more than the 15 year fix in the US) and with a substantial fee attached.

  2. Mr. 1500 says

    Funny you mention it, we’re looking at purchasing a potential rental tomorrow.

    “Notice how the jumbo 5/1 ARM rate is much lower than a conforming 5/1 ARM. The reasons are several…”

    Just curious, why are the jumbo 15 and 30 year notes at a higher rate than the conventional?

    • Financial Samurai says

      I think it comes down to supply and demand at the 5/1 level as well as credit worthiness. More demand from wealthier borrowers of 5/1 jumbo loans and banks are addressing the demand through competitive rates. I’m going to ask my mortgage loan officer as well.

  3. Maverick says

    Mortgage, what’s that? I’m more interested in your detailed analysis of when to dip the toes back into the bond market.

  4. FI Fighter says

    I’m trying to close on another rental, and was pleasantly surprised to learn of the new, lower rates. I was expecting 5%+ which was the case just a month ago.

  5. Micro says

    I’m still at the renter portion of my life. Mostly this is because I’m not sure if I’ll be where I am at long term to justify buying a house. That said, I am on the fence whether I want the rates to stay low until I get to that point or if it would be better for them to go up. The reason I’m not sure is I know higher interest rates puts more pressure to lower overall house prices (since interest eats up more of the monthly payment, people can’t afford as expensive a house). It would be interesting to see some numbers as to which one could save you money over the long term. Lower interest rate on a more expensive purchase or a higher interest rate on a less expensive purchase.

    • Chris says

      Interest rates don’t always eat up more of the monthly payment.

      For example, ANY 15 year mortgage has a higher principle payment than interest if the rate is 4 5/8% or less. However, it has to be a rate of 2.3125% or less for ANY 30 year mortgage.

      And Sam has a very valid point, you can possibly change the rate, but you can never go back and change the initial purchase price.

  6. Lance @ Money Life and More says

    We bought a new house (and took out a 30 yr fixed mortgage) in March of this year. Considering we’ll likely be in this house for at least 10 years (and hopefully much longer than that) I’d say we did pretty well for ourselves. In 5 years, mortgage rates will be much higher than they are today.

    • Financial Samurai says

      If you know this for sure, you should put your life savings and short the hell out of bonds. Honestly, you can really make a lot of money.

      But just don’t look at the 30+ year history of treasury yields. They’ve been going down for 30+ years in a row.

  7. Eliot says

    My third and I hope last refi was March 2013 at 3.125/20y. The original rate was 5.5/30y in 2003. First refi was 4.875/30y in 2009. Second was 4.325/30y in 2011.

  8. krantcents says

    I agree this is a refinancing opportunity , but you should lock in for a longer period. If you will own your property beyond 5 years, you are risking higher interest rates.

  9. Rory says

    We looked into a 5/1 mortgage on our personal residence over the summer. At the bank I work at I was being offered a 1.99% fixed with $300 closing costs. Since our house was nearly paid off at the time the only thing we were going to do was cash out around $100,000 and get it into the market.

    Instead we decided to simply get the mortgage paid off and keep it paid off. The market is up around 4% since then, but I’m happier knowing I have no mortgage.

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