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Mortgage refis a silver lining to market woe?

NEW YORK (Reuters) - The wreckage from Wall Street’s latest calamity could have an unexpected silver lining for the beleaguered U.S. housing market -- lower interest rates.

The bankruptcy filing by Lehman Brothers Holdings Inc LEH.N on Monday triggered a powerful shift by investors to the U.S. Treasury market for safety, pushing down the yields that are a key factor in home mortgage rates. Yields on mortgage-backed securities that also dictate rates lenders can offer also fell, albeit to a lesser degree.

The 30-year fixed rate on Monday morning already dropped about 0.125 percentage point US30YT=RR, near 6 percent, according to Bankrate Inc.

The U.S. Treasury, in its refusal to lend a hand to Lehman, may quicken the drop in rates needed to form a bottom for U.S. housing, which has weakened since mid-2006. The Treasury just a week ago laid groundwork for lower rates with its nationalization of Fannie Mae FNM.N and Freddie Mac FRE.N, and a pledge to support the mortgage bond market.

“The Treasury’s whole goal is to get mortgage rates down,” said Todd Abraham, co-head of mortgage and government debt investing at Federated Investors Inc in Pittsburgh.

“So you have to be relatively happy with what has happened with mortgages today,” he said. “Mortgages have held in fairly well (because) if you are mortgage originator, you know that Fannie and Freddie will be there to buy your mortgages.”

Weekend developments also included a proposed $50 billion buyout of Merrill Lynch & Co. by Bank of America Corp.

Benchmark Treasury 10-year yields plunged by 0.26 percentage point to 3.45 percent, the lowest level since April. Yields on mortgage bonds dropped about 0.22 point to 5.02 percent. Both yields dropped further as the Dow Jones Industrial Average crumbled, ending down more than 500 points.

Falling yields on Treasuries and the mortgage bonds issued by Fannie Mae and Freddie Mac will push the 30-year rate down toward 5.5 percent, Abraham said. That would reduce the rate on the most popular fixed-rate U.S. mortgage by a full percentage point from mid-July.

A 1 percentage point drop lowers the cost on a $200,000 30-year fixed-rate loan by about $130 a month.

That will put affordability back on track, after being derailed by concerns of rising inflation. As the 30-year rate climbed from 5.74 percent in April, affordability indexes plunged back to levels seen as the credit crunch was deepening last fall, according to the National Association of Realtors.

However, the linchpin is not only falling rates, but the move by Treasury Secretary Henry Paulson to protect the two largest providers of mortgage funding ahead of carnage on Wall Street, said Lawrence Yun, chief economist at the NAR.

“In the absence of Fannie Mae and Freddie Mac, and the federal backstop, all this financial crisis would have been a major blow to the housing market,” he said.

Declining mortgage rates are making loans more affordable for homeowners who need to refinance from risky loans, but have not had the opportunity as lenders try to fend off risk by tightening underwritings. That has offset the effect of home price declines that in some regions have reached a quarter of the property’s 2005 or 2006 value.

Borrowers excited about refinancing may get a rude awakening when they contact their lender, analysts at UBS Securities said. Many will be ineligible because the loan they need is too large compared with the home value or what lenders now allow, the analysts said.

As of Friday, the rate on a loan eligible for Fannie Mae or Freddie Mac mortgage bond programs was about 5.9 percent, they said. But tight credit conditions makes mortgages act as if rates were 0.3 percentage point higher, they said.

“If mortgage credit was readily available, that rate would bring us to the brink of a refinancing wave,” they said.

The Mortgage Bankers Association’s refinancing index has plodded along at levels a fifth of the 5,000-plus levels early this year when the 30-year mortgage rate was last below 5.5 percent. As the rate dropped to 6.06 percent in the first week of September, the index rose to 1,222.9 from 1,059.7.

The next step for greater affordability may be a drop in fees imposed by Fannie Mae and Freddie Mac to offset some of their risks in the ailing housing market, Federated’s Abraham said. The “adverse market delivery charges” and other increases on guaranty fees are likely to be unwound after nationalization of the companies reduces profit motives, he said.

“It’s a bit early to tell the full impact of the Lehman bankruptcy and BofA buyout of Merrill Lynch, but I do think what we will see going forward is a declining rate environment as the government seeks more natural ways to stimulate market rather than simply going for bailouts,” said Paul Blaylock, president of National Lending for Ace Mortgage Funding, an Indianapolis-based mortgage banker.

Additional reporting by Lynn Adler and Julie Haviv; Editing by Jonathan Oatis

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