Mortgage Choice and the Pricing of Fixed-Rate and Adjustable-Rate Mortgages, by John Krainer, Economic Letter, FRBSF: In the United States throughout 2009, the share of adjustable-rate mortgages among total mortgage originations was very low, apparently reflecting the attractive pricing of fixed-rate mortgages relative to ARMs. Government policy could have changed the relative attractiveness of the fixed-rate mortgages and ARMs, thereby shifting the market share of these two housing finance instruments.
One of the notable features of the current U.S. mortgage market is the predominance of fixed-rate mortgages. The interest rate differential between fixed-rate mortgages (FRMs) and adjustable-rate mortgages (ARMs) has fallen from a recent high of about 2.5 percentage points in the summer of 2004 to about 0.5 percentage point at the end of 2009. These changes in the interest rate differential have coincided with the collapse of mortgage securitizations other than those mediated by government-sponsored enterprises (GSEs), including Fannie Mae, Freddie Mac, and Ginnie Mae (see Krainer 2009). In addition, the Federal Reserve began large-scale purchases of GSE mortgage-backed securities (MBS) starting in January 2009, adding significant secondary market demand for fixed-rate mortgages. The Fed's purchase program has not included MBS containing ARMs.
This Economic Letter reviews some of the factors determining consumer mortgage choices. It shows that ARM share has declined in ways that parallel the behavior of several key mortgage market interest rates. These developments have coincided with, among other things, Fed intervention in the market through large-scale MBS purchases. Thus, the Fed program, while supporting the functioning of the residential mortgage market overall, could have affected the composition of the mortgage market. To help understand this dynamic, this Letter estimates what the ARM share might have been under alternative scenarios in which fixed mortgage rates were higher, which would likely have been the case if the Fed had not been intervening in the market to the extent that it did. ... [continue reading]
Tuesday, February 02, 2010
The Fed has been purchasing mortgage backed securities, but only those containing fixed interest rate mortgages. Mortgages with variable interest rates have not been part of the Fed's mortgage backed security purchase program. Coinciding with this, and probably caused by the Fed's intervention, has been a change in the composition of mortgage purchases by households toward fixed rate loans: