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What Happens to Mortgage Rates During a Government Shutdown?
It’s looking more likely that there will be a government shutdown beginning October 1st, which begs the question, what happens to mortgage rates?Do they go up even more, do they fall, or do they do nothing at all?At first glance, you might think that they’d rise because of the uncertainty involved with a shutdown.After all, if no one is quite sure of the outcome, or duration, banks and lenders might price their rates defensively.That way they don’t get burned if rates shoot higher. But history seems to tell a different story.Bond Yields Tend to Fall During Government ShutdownsAs a quick refresher, mortgage rates track 10-year bond yields pretty consistently. So if the 10-year yield falls, long-term 30-year fixed rates often fall as well.Conversely, if 10-year yields rise, which they have quite a bit lately, mortgage rates also increase.The 10-year yield began 2022 at around 1.80 and is around 4.60 today. Since that time, the 30-year fixed has climbed from roughly 3% to 7.5%.So there’s a pretty strong correlation between the two, though the spread between them has widened over the past couple years as well.Since mortgage bonds are inherently riskier than government bonds, there’s a premium, or spread that must be paid to investors.You used to be able to price the 30-year fixed mortgage at about 170 basis points above the 10-year yield. Today it might be closer to 275 bps or even more.Anyway, the 10-year yield seems to fall during government shutdowns because of the old flight to safety.And here’s what Morgan Stanley had to say on the matter: “On average, during shutdowns since 1976, the 10-year Treasury yield has fallen 0.59% while its price has ticked up, suggesting that investors favor the safe-haven asset during these periods of uncertainty.”In other words, if the 10-year yield falls during the shutdown, 30-year mortgage rates should also drift lower.How much lower is another question, but if they continue to track the 10-year yields, a .50 drop in Treasuries might result in a .25% drop in mortgage rates.Did Mortgage Rates Fall During Prior Government Shutdowns?Now let’s look at some data to see if mortgage rates actually fall when the government shuts down.The most recent government shutdown took place from December 21st, 2018 until January 25th, 2019.It was the longest shutdown in history, lasting 34 days. There was one in early 2018, but it only lasted two days.I did a little research using Freddie Mac mortgage rate data and found that the 30-year fixed averaged 4.62% during the week ending December 20th, 2018.And it averaged 4.46% during the week ending January 31st, 2019.Of course, the shutdown drama started earlier in the month of December 2018 when the 30-year fixed was priced closer to 4.75%.So if we factor all that in, you might be looking at a 30-basis point improvement in mortgage rates.Prior to that shutdown was the one that occurred on September 30th, 2013 and lasted 16 days.The 30-year fixed averaged 4.32% during the week ending September 26th, 2013, and fell to 4.28% during the week ending October 17th, 2013.Not much movement there, but it did continue to drift lower in following weeks and ended October at 4.10%.You then need to go all the way back to December 15th, 1995 to get another shutdown, which took place under President Clinton.It lasted 21 days, ending during the first week of 1996. During that time, the 30-year fixed fell from around 7.15% to 7.02%, per Freddie Mac.Prior to these shutdowns, most only lasted a few days and thus probably didn’t have much of an impact, at least directly.All in all, mortgage rates did improve each time, though not necessarily by a huge margin. Still, any .125% or .25% improvement in pricing is welcomed right now.A Lack of Data Makes It a Guessing GameIf the government does in fact shut down this coming week, it’ll mean that certain data reports won’t get released.This means we won’t see the Employment Situation, scheduled for next Friday, nor will we see CPI report the following week.There are many other reports that also won’t be released between this time and beyond, depending on how long the shutdown goes on.As such, we’ll all be flying in the dark in terms of knowing the state of the economy. And the direction of inflation, which has been top of mind lately.The good news is the Fed’s preferred inflation gauge, the personal consumption expenditures price index (PCE), already came out.And it was weaker than expected. Prior to that report, we were getting some signs that the economy was still running too hot.So the timing might work here in terms of higher bond prices and lower yields, which in turn would drive mortgage rates down too.After all, our last piece of information was that inflation and consumer spending rose less than expected, which is good for rates.Read more: How the Government Shutdown Affects Various Types of Mortgages
How underwriting technology is progressing as guidance evolves
Artificial intelligence could help lenders navigate secondary market underwriting guidelines, but only if it is in line with the latest guidance from regulators.Developments like the Consumer Financial Protection Bureau's recent directive on artificial intelligence and denials do signal renewed regulatory scrutiny in this area, Frank Poiesz, business strategy director, Dark Matter, told attendees at Digital Mortgage 2023 this week.Regulators "are very concerned and are going to track closely how credit decisions are made," Poiesz said.CFPB guidance on chatbots, in addition to the directive on denials, have made vendors cautious, and "that's why I feel that we're kind of at a point where we've got to watch how we use AI as an industry," he said while speaking on a conference panel about its role in underwriting. Leah Price, an independent fintech advisor, left, discussed the role of AI in underwriting with Dark Matter Business Strategy Director Frank Poiesz and NMN Reporter Maria Volkova at the National Mortgage News Digital Mortgage Conference on September 26 at the Wynn Resort in Las Vegas. Photo credit: Jacob Kepler But while this may make the industry move a little more deliberately when it comes to development and use of the technology, it hasn't stopped progress altogether."There are a ton of applications we're working on that include helping the people that have to understand the seller guides," said Poeisz, referring to rules government-related loan buyers set for lenders. "That knowledge to users is certainly a good application of generative AI."Other underwriting-related technologies that are moving forward with some regulatory scrutiny include digital bank and rent data that can serve as an alternative way to qualify borrowers who lack traditional credit histories.Oversight agencies are very protective of the use of this consumer-permissioned data. Stakeholders participating in the Federal Housing Finance Agency's TechSprint discussions in July told the agency they see a utility model as one potential long-term outcome.There is room to move within the rules in this area, Lucky Sandhu, president and CEO of Reliance Financial, told conference attendees while speaking on a panel about alternative credit's potential to grow loan pipelines."Regulators will work with you as long as you understand the foundation and fundamentals very, very strongly, especially when it comes to understanding credit defaults and credit risk," Sandhu said.Alternative credit's potential reach is sizable, said David Battany, executive vice president, capital markets, Guild Mortgage, citing Consumer Financial Protection Bureau data indicating over 50 million adults have insufficient or no traditional credit history.While alternative credit has long existed, it's been unwieldy to use, with few people willing to go through a process, he noted. But digital advances in consumer-permissioned bank and rent data at government-sponsored enterprises Fannie Mae and Freddie Mac are improving access."The GSEs have really taken the lead on this. Also the private market — the non QM market — has really innovated in a lot of areas," Battany said. Digital tax-transcript data in particular has been used to qualify self-employed borrowers for the latter product.While conforming lenders are able underwrite self-employed borrowers, the loans have restrictions. That ends up pushing many into non-qualified mortgage products where lenders have less assurance of compliance with the Consumer Financial Protection Bureau's ability-to-repay rules.While the enterprises have offered lenders limited relief from representation and warranty risk when digital data validates information on loans submitted for sale in some cases, Fannie has warned whether the information is ATR compliant is a separate question.And the number of alternative credit borrowers making it through into the GSE market has been limited, according to both Battany and another panelist, Patrick Tadie, executive vice president, global capital markets, structured finance, at Wilmington TrustOne hurdle to the use of alternative credit data by the private credit market is that the rating agencies that have a hand in secondary market pricing consider it to be limited given the small amount of loans originated and their performance track record."We still need more data," said Tadie, noting that the view the rating agencies have of it makes originating loans for sale into this market relatively more costly.Wilmington's parent company, TD Bank, does have a private loan product based on alternative credit that it holds in portfolio rather than selling to the secondary market. But its reach is limited, Tadie said, noting that underwriting requires a lot of compensating factors."It's incredibly conservative," he said.
What bankers need to know about the government shutdown
WASHINGTON — As Congress hurdles toward yet another government shutdown, bankers might experience more collateral damage than they have in the past. Typically, government shutdowns leave financial institutions, sans those that largely serve government employees, alone. Fat Bear Week will likely not be so fortunate. Government shutdowns have almost become part of business-as-usual on Capitol Hill, a symptom of deepening partisan divides that make even must-pass legislation — like funding the federal government — difficult. Most on Wall Street assume that political gridlock in Washington will get cleared up eventually, and financial regulatory agencies tend to be funded outside of the Congressional appropriations process, and continue to function normally. But a key program expiring this year — combined with deeply-entrenched lawmakers on both sides of the aisle — could cause more economic pain than prior shutdowns. The government shutdown could happen as soon as Sunday. Here's what bankers should know about the state of Washington and its effect on the financial industry.
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