Have Refis Run Out?

The average rate on the 30-year fixed mortgage is up about a half a percentage point since the middle of February, when they hit a record low. Mortgage refinances, however, dropped 24 percent in the same period of time.

That's a huge reaction to a small move from a record low.

"Rates have been there (3.75 percent) for so long that most everybody who could benefit from lower rates has applied," says mortgage analyst Mark Hanson. "Now, when rates pop up over 4 percent, it chokes off refi activity, which is sad. 5 percent rates in the U.S. are now prohibitively high."

Again, a little perspective here. Mortgage rates, spurred by government intervention in the market, of course, are still incredibly low. The problem is that the refinance business has changed fundamentally. This from analyst Barry Eisbruck:

"There used to be a product called cash out refinancing. Those quarterly refinancing numbers are amazing from 2003 vs. 2011. In 2003 you had 4.3T of total mortgage volume, 3T in cash out/refinancing and 1.3T in purchase origination. In 2011 it was around 1.3T of total mortgage volume, 75-80 percent of that was refinancing, so probably around 300-400B of purchase origination. These numbers are happening with record low rates and home prices at 1Q2003 levels."

Here's another strange point: In the fourth quarter of 2011, mortgages were cheaper than they've ever been, and yet refinancing was lower than the previous year, when rates were much higher. It all leads to the question: have refis run out?

"The decline in the Refinance Index this week was driven largely by a 12.0 percent drop in government refinance activity, while conventional refinance applications fell by less, decreasing 3.4 percent from the previous week," according to today's mortgage applications report from the Mortgage Bankers Association.

That's a problem, because government mortgages (largely FHA) are going to get even more expensive on April 1, when the FHA raises insurance premiums.

There will still be some refis going through the government's HARP2 program, which allows borrowers who have Fannie Mae and Freddie Mac loans to refinance, even if they owe more on their mortgages than their homes are currently worth ("underwater"). Those borrowers have been priced out of the refi market until now, but the program has just kicked into gear, so that could provide a boost.

For others, though, the return on a refi is getting ever smaller as rates go higher. Why do we care about refis? Because they put extra money in consumers' pockets…money they generally spend, fueling the greater economy.

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Rising Mortgage Rates Block Refis

As the yield on the 10-year Treasury hits a six month high, you can almost hear all the doors slamming over in refi land. While you'd think most borrowers had already refinanced their loans to take advantage of the recent record-low interest rates, many have actually not, and their opportunity is fast falling.

Refinance applications have fallen steadily since the first week in October, as mortgage rates began to rise.

Now a $500 billion block of loans has become "clearly not refinanceable" according to Deutsche Bank.

"The mortgage rate for a high concentration of 30-year borrowers clusters just below 5.00 percent...as the 30-year Freddie Mac primary survey rate increased from the low of 4.17 percent on 11 November to 4.46 percent on the latest reading, the average refinancing incentives for these borrowers has dropped from 76 bp to 47 bp, putting them at a brink of break-even refinancing spread."

There are currently $10.5 trillion in mortgages outstanding, and there have been about $2 trillion in refinance activity since the beginning of 2009, according to Inside Mortgage Finance. So one in five borrowers have refinanced. Why so relatively few, given the historically low rates this year?

"Because underwriting is much tougher than it has been in several decades, there is no non-prime market, one in five borrowers are underwater and unemployment is close to 10 percent," instructs Guy Cecala of IMF.

Still, I'm sure there are a fair number of borrowers who could still have taken advantage of lower rates and improved their finances some, especially given the government refi programs designed to help underwater borrowers.

As rates go up, those programs will likely become less effective.

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