Tighter money, tighter squeeze

Rising interest rates signal slower housing market, more pain for borrowers

April 14, 2006|By NEW YORK TIMES NEWS SERVICE

The era of cheap money might be nearing its end.

Investors pushed up the yield on the U.S. government's benchmark note to more than 5 percent yesterday, its highest point in nearly four years, signaling that many borrowers will soon be paying more on mortgages and home equity loans.

Driven by a stronger economy and a nearly two-year-long money-tightening campaign by the Federal Reserve, rising interest rates are expected to have the biggest impact on people who took out home loans with low introductory interest rates that are set to adjust according to market rates in the next few years.

The 10-year Treasury note, which topped 5 percent yesterday for the first time since June 2002, serves as a touchstone for a variety of borrowers, including consumers, corporations and governments.

It is most closely tied to mortgages and is likely to play a role in curbing the frenzied housing markets in many parts of the country and slowing price increases.

"Where you are going to feel the pain the most is on the housing market," said Brian J. Carlin, a vice president at J.P. Morgan Private Bank.

Carlin estimated that people who bought homes with adjustable-rate mortgages could be paying 3 to 4 percentage points more in the next two years, as the typical 3 percent introductory rate is adjusted upward in annual increments.

For a $400,000 mortgage, that could translate into an increase of $1,000 or more in monthly interest payments.

Mortgage delinquencies have started climbing, although they remain at relatively low levels. In the fourth quarter of last year, 4.7 percent of home mortgages were delinquent, up from 4.4 percent in the third quarter, according to the Mortgage Bankers Association of America. A delinquent loan is one with monthly payments past due for 60 days or more.

Experts note that by past standards, borrowing costs remain low and that the recent interest rate increases might have a modest effect on economic growth.

For many Americans, the growing number of jobs and increases in incomes are likely to outweigh the impact of higher mortgage costs, they say.

"If we go back six years, people thought 5 percent was a pretty low rate," said Harold S. Woolley, a managing director at Bessemer Trust, an investment management firm based in New York.

For much of the past year, analysts and policymakers have struggled to explain why long-term interest rates have remained relatively low, given the Federal Reserve's campaign to push up interest rates by increasing its benchmark short-term rate, now 4.75 percent.

Investors expect the Fed to raise interest rates at least once more, to 5 percent, at its meeting next month.

In a speech yesterday, Donald L. Kohn, a Fed governor, said rising interest rates are likely to slow the economy this year, primarily by deflating the once-robust housing market. He indicated that he would favor increasing short-term rates further if the economy sharply accelerated or if energy prices shot up, either of which could accelerate inflation.

"A tendency for inflation to move higher would put economic stability and the long-term performance of the economy at risk," he told bankers at a luncheon in Oklahoma City.

Kohn said inflation, excluding energy and food costs, has remained modest, at an annual rate of about 2 percent.

On Wall Street, the stock market was little changed yesterday in light trading, in part because of the start of Passover this week and the Good Friday holiday led many traders to take time off.

Many analysts say longer-term interest rates in the United States have been kept low by foreign governments' purchase of U.S. government securities.

There are early indications that foreign buying is easing. In the first week of April, the Japanese government purchased foreign bonds at a much slower rate than it did during the comparable periods from 2003 through 2005, said Wan-Chong Kung, a senior portfolio manager at First American Funds, a mutual fund company in Minneapolis.

"We have seen some moderation in buying from Asia, and I think we will continue to see that," Kung said, noting that recent interest rate increases by central banks in Europe and Japan are conditioning investors to higher borrowing costs worldwide.

The Mortgage Bankers Association estimates that the burden of higher interest costs will fall on 7 percent to 8 percent of homeowners. The rest have paid off their mortgages or face no immediate increase because they took out fixed-rate mortgages or refinanced to obtain mortgages that hold rates steady for five to 10 years.

Buyers of new houses will also be paying more.

The nationwide average rate for 30-year fixed-rate mortgages was 6.43 percent last week, up from 6.21 percent at the start of the year and 5.71 percent at the start of 2005, according to mortgage lender Freddie Mac.

The introductory interest rate on five-year adjustable-rate mortgages was up to 6.11 percent from 5.78 percent in January and 5.3 percent a year ago.

Rates on 30-year mortgages have climbed to their highest point in nearly four years. Freddie Mac reported that rates on 30-year, fixed-rate mortgages averaged 6.49 percent for the week that ended yesterday, up from 6.43 percent for the week that ended April 6 and the highest since mid-July of 2002.

Rates on 15-year, fixed-rate mortgages averaged 6.14 percent, up from 6.10 percent last week, and rates on one-year adjustable-rate mortgages increased to 5.61 percent from 5.57 percent. Rates on five-year hybrid ARMs averaged 6.13 percent.

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