Cashing In On Lower Rates
OCEAN CITY - Interest rates are going up •€' probably not within
this year, maybe not even in the next. But at some point in the upcoming 24
months, says Larry Washington, Managing Director and Head of Merrill Lynch
Home LoansTM, the rates for home mortgages and other loans will
likely start to rise from their current historic lows. "It's
inevitable," according to Washington.
For anyone who owns or is in the market for real estate, this combination
of record low rates and all-but-certain hikes on the horizon may create a rare
opportunity to optimize borrowing costs and, ultimately, the value of
investments. "We believe that this a great time to take advantage of the
current rates and prepare for the higher rates to come," Washington says.
Earlier this year, it looked as if higher rates might already be at hand.
The Federal Reserve Board increased its overnight funds rate, one of the key
benchmarks that helps determine the rates for U.S. loans. More (and more
substantial) Fed hikes were expected to follow, but then the Greek debt crisis
hit, and signs emerged that the U.S. economic recovery might be slowing.
Investors' flight to safety pushed down the yields for U.S. Treasuries, another
key rate driver, particularly for fixed-rate mortgages.
Still, Larry Washington is encouraging borrowers to use this added time to
analyze their mortgage financing and make sure it's as well positioned as it
could be. He says the strategies break down into two basic categories:
"defensive" maneuvers designed to limit the impact of the eventual
hikes, and "offensive" moves that may allow you to squeeze even more
value out of the rates being offered now. Here are some approaches to both
Depending on their type of mortgage, existing mortgage holders may want to
take advantage of the current low-rate environment to reduce their current
monthly payments •€' or to guard against the potential payment shock
that could result from a rate increase.
People with adjustable-rate mortgages, or ARMs, have other factors to
weigh. If they have an ARM •€' in which the rate is adjusted
periodically (usually once a year), based on the prevailing funds rate or
another major index•€'their best option might be simply to do nothing. Rates for
one-year ARMs are now about a full percentage point lower than for typical
But some borrowers have another type of ARM, known as a term
adjustable-rate mortgage. This mortgage has a low fixed rate for an initial
period (generally 2 to 10 years), then converts to an adjustable rate tied to
one of the benchmark rates plus a premium for the remaining term of the loan.
The combination of that reset plus the effect of eventual rate increases should
give term ARM holders concern, says Washington. "Anyone whose term is
resetting over the next three years may want to consider using this opportunity
to refinance at a fixed rate now," he said.
There is also the interest-only mortgage. Depending on the rate at which
the interest-only mortgage was set, homeowners who carry these loans may
consider rolling it over into another interest-only loan at today's lower
rates. But there's not a lot of time left for homeowners to make this move.
Monthly payments for interest-only mortgages consist solely of a fixed-rate
interest for a set period (usually 10 years), during which the principal
remains constant. When the period ends, homeowners must pay both principal and
interest until the loan is retired. For many homeowners, the end of the interest-only
period can mean a sharp, and unsustainable, uptick in the monthly payment. For
others, though, interest-only mortgages can be an effective tool for
controlling cash flow and asset allocation. "Clients who already have a
lot of available equity in their home like the ability to control when they pay
down their principal," Washington explains. "If they get a bonus and
decide to pay down their principal by $25,000, in a fixed-rate mortgage all
that does is shorten the term. But in an interest-only, that reduction in
principal immediately shows up the next month in a lower mortgage
Freddie Mac, one of the two federally sponsored corporations that supply
liquidity for the country's mortgage market, has announced that, beginning in
September, it will no longer purchase interest-only loans. Its counterpart,
Fannie Mae, will still buy the loans, but with new restrictions. The upshot,
says Washington, is that "these loans are going to become a lot harder to
get. So if you were thinking of refinancing before your interest-only period
ends, you have only a very short window before the availability tightens."
There's also another way that Larry Washington has been encouraging clients
to leverage today's rates. For anyone contemplating a second or retirement
home, now could be a very good time to buy. "We're not necessarily calling
a bottom to home prices," says Washington. Prices could still slide lower,
particularly in parts of the country with a large "shadow
foreclosure" inventory of homes. "But prices are low now," he
says, "and interest rates are really
low. And that can be a very powerful combination."
Merrill Lynch Wealth Management Advisor. She can be reached at 410-213-8520.)