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Friday, January 23, 2015
It’s Time to Think About Refinancing Your Mortgage
bond market is a complicated thing, and it is understandable if most
people don’t spend a lot of time thinking about it. But even for
Americans who don’t want to spend any mental energy on yield curves,
convexity and term premia, there is one simple thing to know about the
current tumult in the multitrillion dollar market: It’s time to think
about refinancing your mortgage.
The average rate on a 30-year fixed-rate mortgage
was 3.8 percent at the end of last week. That is down from 4.5 percent
as recently as last spring, the lowest since May 2013 and far below the 5
percent-plus rates that prevailed as recently as early 2011.
raises the possibility that the great American refinancing machine
might again chug into motion, leaving Americans with lower monthly
payments, more cash in their pockets or both. Homeowners who secured
their current mortgage in late 2013 or early 2014, or anytime before
mid-2011, may want to at least plug their numbers into an online calculator to see if the potential savings are worthwhile.
The math can be as simple as you want or as complex; here’s how to think of the decision.
considering whether to refinance, you are exploiting the fact that you
can fully repay a home mortgage whenever you want and take out a new
one. If rates rise, you can stick with your old one as long as you
continue to own your home; if they fall, you can pay off the old
mortgage and get a new one. Heads you win, tails your lender loses.
Seldom in life does this dynamic apply, so it is worth exploiting
whenever the opportunity arises.
details are different, but if the current rate is half a percentage
point below the rate on your mortgage, a refinance is potentially
compelling. If it is closer to a gap of a full percentage point, it may
be a slam dunk unless you expect to move soon.
taking out a new mortgage comes with costs, such as origination and
appraisal fees — typically in the low four figures. The open question is
whether you will enjoy the benefits of lower rates for long enough to
cover that upfront cost.
a hypothetical, a family that took out a $400,000, 30-year fixed-rate
mortgage in June 2013 at 4.6 percent could save $187 a month by
refinancing $400,000 at a 3.8 percent rate. (If instead of taking cash
out they borrowed only the $389,826 they should owe on the mortgage at
this point, they would save $234 a month, reflecting both the lower
interest rate and a smaller principal.)
taking the plunge, though, our family has to decide how long it expects
to stay in the home. If transaction fees add up to $4,000, for example,
the family needs to stay in the home for at least 21 more months (if
borrowing $400,000; 17 months if borrowing $389,826) to justify the
transaction (or a bit longer if you also try to account for the tax
savings they are not receiving because they are paying less to the bank
in mortgage interest).
here’s another intriguing possibility. Let’s say our family has seen
its income rise since originally taking out the home loan in mid-2013.
The interest rate on a 15-year fixed-rate mortgage is now a mere 2.9
percent. An option would be to refinance the $389,825 currently owed
into a 15-year mortgage. That would increase the monthly payment by $623
a month — but would result in paying the home loan off entirely in
2030, not 2043 as the family was previously on track to do.
with all major financial decisions, the details of each family’s
situation can add all kinds of complexity that are worth gaming out and
analyzing carefully. But for the economy as a whole, this latest shift
in rates has a particular silver lining.
years past, mortgage rates have dipped when it looked as if the United
States economy could be falling back toward recession, and the Federal
Reserve intervened with easier money to try to stop that from happening.
This time, the economy is looking relatively strong and the Fed is
making plans to raise interest rates.
drop in mortgage rates is being driven by a combination of plummeting
oil prices, which are reducing investors’ expectations for inflation in
the years ahead, and a tumultuous global economic environment, which is
leading investors worldwide to plow money into safe American assets.
That includes the bonds packaged by the government-sponsored mortgage
finance giants Fannie Mae and Freddie Mac, which in turn fund most of
the nation’s consumer mortgages.
other words, global investors are so desperate for a safe place to park
cash and so confident that inflation is nowhere to be found that they
are flinging money at United States homeowners. Americans now paying
significantly above-market rates on their home loan might at least do
them the favor of picking it up.