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Many of our wealth management clients are wondering: Is now the right time to refinance my mortgage?  Lower mortgage rates generally are a great thing for existing homeowners looking to lower their existing mortgage payments.  But it pays to be strategic about your decision, which can have major financial implications.  I have a few of thoughts.

Am I Getting Lowest Mortgage Rate Possible?  In response to the pandemic, the Federal Reserve has pumped liquidity into the financial system which has resulted in the 10-Year Treasury yield falling bond to yield 0.60-0.70%, an historically all-time low level.

10-Year Yield and Mortgage Spreads

Source: St. Louis Federal Reserve

While current mortgage rates of 3.15% also represent an historical low, they still may fall farther.  This is because the 30-year mortgage “spread” over a 10-year US Treasury is higher than normal and reflects the capital market’s assessment of potential credit risks on new mortgages for an economy mired in a recession.  However, as these fears ease, mortgage spreads may tighten, lowering mortgage rates further, possibly another 0.50-0.60%, which is a significant move. To the extent economic fears further abate, US Treasury yields may go back up, which would put upward pressure on mortgage rates as well.  Therefore, if you wait to try to bottom tick mortgage rates, you may risk miss these all-time lows.

In practice, there has been a huge rush to refinance loans, even thought mortgage spreads are high and could tighten (and lower mortgage rates further).  Remember, you can always chose to refinance in the future if rates decline.

Source: Oxford Economics/ Haver Analytics/ WSJ Daily Shot

How Do I Save the Most?

Terms: There are several terms to consider if your objective is to lower your payment.  For instance, if you anticipate being in your home for less than 7 years before you move, you may want to consider a mortgage structure that fixes the rate for 7 years, then floats in year 8.  While the borrower is technically taking additional risk on what their mortgage interest rate (and payments) will be in the future after year 7, for someone looking to move in that time frame, it is a risk that may not affect them.  Also, the size of the loan is important.

Loan Size:  Generally, conventional loans below $510K are considered “conforming” and can be easily bundled in a security and sold to investors on Wall Street.  These securities are considered relatively “safe” and therefore offer the most competitive mortgage rates.  However, in some counties, such as King county, homes are more expensive and conforming loan limits can go up to $741K.   Jumbo loans (those above these conforming thresholds) tend to have higher mortgage rates due to the perceived risks and liquidity of these loans and underlying collateral.  Therefore, if your principal balance on a conventional jumbo loan is close to the conforming loan limits, it may make sense to pay down the loan to secure the most competitive rates if you are thinking of refinancing your home.

Lowering Payments vs. Lowering Interest Rate.  Looking at lowering your mortgage payments without considering the whole picture, may increase your financial risk.  I have clients that want to take as little risk as possible in terms of their financing plans.  For clients that plan on retiring in the next 5-10 years, I encourage that they think carefully about taking on a 30-year mortgage, as the payments will still need to be made well after retirement.  Mismatching income and liabilities may create unwanted financial pressures in the future.  There are lots of planning options to structure this risk intelligently, such as looking at a 15-year mortgage with a lower interest rate.

Next steps.  Financing your home intelligently is likely the single most important financial decision an individual can make.  If you are looking for someone to give you an independent perspective on what the right decision is for you, do not hesitate to give me a call.  This decision is much more complex than many realize and making the right decision could have major financial consequences.

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