Why Mortgage Rates Are Rising
Meg Handley

An encouraging jobs report and news of progress in the euro debt crisis have given markets a confidence boost

"Mortgage rates are rising," isn't a phrase often heard lately. Nevertheless, after falling below 4 percent for the first time ever last week, rates have inched up again.

Though still extremely low by many measures, the 30-year fixed rate mortgage averaged 4.12 percent for the week, up from 3.94 percent last week, according to a Freddie Mac survey. This in spite of the Federal Reserve's recent monetary policy move, dubbed Operation Twist, designed to keep interest rates low to spur borrowing.

Experts attribute the bump in rates to several factors including a better-than-expected September jobs report. Encouraging numbers--the economy added 103,000 jobs in September--helped to assuage investors' fears of a worsening jobs market and possible double-dip recession.

When investors are nervous, they tend to pile into super-safe Treasury bonds, driving yields down. Yields on 30-year notes sank below 3 percent at the end of September, but have rallied to around 3.19 percent as of Wednesday as the unemployment outlook has stabilized and demand for treasury bonds has abated slightly.

"The market has become accustomed to bad (economic) news driving rates down. When the data isn't all that bad, some money creeps out of safe havens (usually Treasuries) and back into the equity market," Keith Gumbinger, president of mortgage-information site HSH.com, wrote in an E-mail. "That usually comes at the expense of yields on bonds and by proxy, mortgage rates."

Meanwhile, news that European leaders are beginning to cobble together a viable plan to resolve the region's sovereign debt and banking sector crises has boosted investor confidence as well. Slovak lawmakers approved a measure to expand the size and powers of the European Union's bailout fund Thursday, removing a major obstacle preventing EU officials from responding quickly and efficiently to tame the brewing crises.

"The euro zone crisis has over the past couple of months definitely affected what's happening in U.S. mortgage rates," says Mona Marimow, senior vice president of marketing at LendingTree. "As the situation in the euro zone becomes more stable, there [has been] slightly less demand in what's considered to be safe U.S. Treasuries. That would be correlated to mortgage rates ticking up as well."

Despite concerns that mortgage rates could be on the rise, in general volatility has ruled the game lately making slight upticks and slides relatively commonplace. "External events are the key drivers of interest rates," says Greg McBride, senior financial analyst at Bankrate.com. "One hiccup out of Europe or disappointing earnings or economic news in the U.S., and treasury yields and mortgage rates will go right back down."

But even if rates do descend to historic lows again, that doesn't necessarily mean consumers will benefit, Marimow cautions. "What we've noticed since the Fed's Operation Twist over the past couple of months is that the spread between lowest and average [mortgage rates have] actually been increasing to the biggest spreads we've ever seen," Marimow says.

That means, even though mortgage rates offered by some lenders have dropped to historic lows, in general, average rates have stayed steady or increased in some cases. One reason some lenders aren't paying forward savings to consumers is that the demand for mortgage financing is increasing. "Their pipelines are overwhelmed," Marimow says. "Rates have been dropping since March, so lenders are overwhelmed."

Essentially, because of pent-up demand for credit, lenders have no incentive to lower rates to attract business. "The Fed's Operation Twist in theory did what it was supposed to do in the market," Marimow says. "It has just lacked the right actions from the lenders."

While little has changed on the housing front when it comes to mortgages and home loans, the solution to the nation's housing market woes might not be just a matter of lowering interest rates further. Rates have already been at historic lows for months, and have failed to stimulate any meaningful improvement in home purchases or refinancing activity.

"When you think about the fact that [the Fed was] trying to lower rates even further to spark the economy, at a certain point you have to wonder 'Are we going to reach the point of diminishing returns?'" Marimow says. "There are others who believe that it's not necessarily low rates, but that we really need to help troubled homeowners, ones with negative equity in their homes who are not eligible to refinance."

With the Fed's Operation Twist in place, rates are likely to remain low barring any major shock to the financial system. However, it remains to be seen just how low rates will benefit struggling homeowners, on whom some say the recovery of the housing market, and perhaps the economy, hinges.