I get a lot of questions from customers regarding what they’ve read on the internet or seen on TV regarding interest rates. Today a customer asked me “I saw that 30 year fixed rates are 3.75%, why is my rate 4%?” Well, there are a lot of factors that go into deriving a rate. Those factors include loan program, credit, loan term, loan to value and property type, just to name a few. Every rate offered comes at a cost or a credit. So when you hear that rates have dropped, it doesn’t always mean the rate, but rather the cost to get that rate. Below is a great article about how that balance affects consumers and the interest rates that they secure for their home loans.
Our methodology for determining daily mortgage rates is somewhat complex, and involves an objective component based on lenders raw prices as well as subjective impression from our network of originators. We look at the actual rate sheet offerings from most major lenders and calculate the buy-ups and buy-downs between each rate (incidentally, rates tend to be offered in .125% increments, which is why we’re always conveying best-execution in .125% increments whereas the actual daily average is reflected on the mortgage rates page).
Sometimes, the “sweet-spot” is obvious from looking at lenders raw pricing. For example, For each .125% lower in rate, you’d have to pay more and more in terms of closing costs (which could be referred to as “discount” or “origination” or “points” among other things, but I’d greatly like to stay out of semantics debate and instead focus on the spirit of the matter. Bottom line: it costs more money up front to pay a lower rate over time, whatever a lender wants to call that fee).
For instance, if it costs 0.4% of the loan amount to move down from 4.125% to 4.0%, another 0.5% to move to 3.875%, but a whopping 1.2% to move to 3.75%, it’s clear that this lender’s Best-Execution is at least 3.875%. In some cases, some clients may opt to pay big buydowns if they understand the longer time it will take to breakeven on the extra upfront expense in terms of monthly payment savings from an .125% lower rate.
Other times, the gaps between rates are fairly close together for several rates near Best-Execution. This makes the process of deciding that lender’s Best-Ex rate much more subjective. In these cases, we assume scenarios with the best combination of lowest closing costs but not at the expense of monthly interest savings that could be recouped in less than 5 years. This almost always means a loan with no origination fee.
But when the range of options are similarly viable, we involve the community to get a consensus not only of what they’re quoting, but also which options their clients are choosing. This is combined with the objective measurements taken from lenders, and each lender’s best-ex rate goes into calculating the average. Please note, however, that average posted on the mortgage rates page is a strictly quantitative measurement based on proprietary parameters that effectively constitute a “best-case-scenario.”
The bottom line is that the rates seen on the mortgage rates page as well as those discussed in the daily commentary won’t always apply to everyone. But they are the best way for us to benchmark the day-to-day changes as they provide a common point of reference. As you read along, you may have to infer that when we’re talking about a .125% improvement in rates that your own starting point may have been different from our Best-Execution starting point. Unless your scenario falls in that “best case” category, the important thing to track is the CHANGE as opposed to the outright levels.