How the Fannie Mae and Freddie Mac takeover are lowering Rates
If one is presented with two investments of equal risk, the informed investor will choose the investment that offers a higher return rate. This is fundamental to personal investing and is called Risk Aversion.
If the investment with greater risk will yield greater returns, an individual may choose greater risk as part of the Risk Aversion process.
Government and mortgage debt traditionally differ by 1.5 percent. The difference between return rates is called the “spread.”
However, the spread started to grow in July 2007.July 2007 marked the “official” start of the Credit Crunch and as mortgage delinquencies grew nationwide, so did the market’s perceived risk of investing in them.
The “spread” almost doubled in a year. On September7, 2008 the takeover of Freddie Mac and Fannie Mae was announced by the federal government. This action offered the “risk free guarantee” for mortgage debt. After the announcement of the takeover the “spread” decreased.
This is one reason why mortgage rates fell Monday and why they should continue to stay low over the near-term. With the U.S. government backing the mortgage market, there’s no room for the risk premium that helped keep rates high this past year.
This will not mean more people will be able to get mortgages. However, those who qualify may find that financing is cheaper.
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