A great question

"Hey Mike!
I have a question. How will the recent and continuing series of rate cuts affect mortgage lending? I heard a rumor today that even with the cuts, mortgage rates could go up and it could be even harder for people to qualify.       Thanks!      ~ Greg "

That's a very good question Greg, and one that so many people just don't understand.  Even the Loan Officers sometimes don't get it.

The Feds and the system that creates mortgage rates (let's say 30 Yr Fixed) are disconnected.  The Feds can change very short term rates, called overnight rates while the 30 yr fixed is determined by what is called Mortgage Backed Securities (MBS).  The price investors are willing to pay for these securities determines long term rates.

If you take anything away from this it should be that it isn't the Lender and it's not the Fed that determines rates.

I went looking for a answer to your question and found this great chart from

Tony Gallegos:

History Is A Teacher - Cuts To The Fed Funds Rate Lead To Mortgage Rate Hikes

January 30, 2008

To add to his chart, when we had the 1/2 point cut the other day we saw rates that day go higher and drop back down right to where they were.  If that's not proof for the pudding I don't know what is.

Remember, lenders are constantly being pulled in two directions.  It all stems from their being able to sell loans (MBS).  On one extreme they could make any loan anywhere to anyone.  that wouldn't be a good thing.  You can imagine the default rates in that pool. 

Going to the other extreme, they could make only the highest quality loans to the highest quality borrowers.  Less defaults right?  You can also guess they'll make far fewer loans this way.   The optimum is somewhere in the middle.   That middle is changing.

In order to get a higher price for the mortgage pools, they need to make them higher quality. 

Now let's throw a little more into the mix - Jumbo Loans. 

Conforming loans, presently at $417,000, represent some of the safest pools for investors to buy.  Jumbo Loans are a higher risk.  If HR 5140 passes, and it's likely it will, the conforming pool will soon be polluted with riskier loans.  Riskier loans mean higher default rates.  That may mean that conforming loan rates might actually go up!

If the Lenders think rates might be going up, they can fight that by producing a higher quality product.  That means tighter guidelines.  Tighter guidelines means it's harder to qualify.

So in the end, it's what price someone is willing to pay for a Mortgage Backed Security (MBS) that determines if rates go up or rates go down.  Does that help explain the disconnect?