Archive for April, 2009

Rate, Points and Fees: a Mortgage Buyer’s Guide

Periodically, I hear the same question from enough people that I know it’s time for a detailed primer on some part of the mortgage process. So today, let’s take a close look at how mortgage interest rates and fees are determined, what “points” are, and what you need to know to make sure you’re getting the best possible deal on your loan.

First, a definition: a “point” is 1% of the loan amount, also rendered as 100 basis points, or bps.

Before we talk about “paying points”, we ought to divide the costs of the loan from the costs of the rate for the loan. There are two sets of costs, and they don’t really have very much to do with each other. This is, I think, a major point of confusion.

Cost of the loan: To borrow $200,000 costs X. X varies a bit from lender to lender, just like the cost of grapes from grocery store to grocery store. Do not be confused here by “no-cost refinances”; the cost is still there, however you hide it, just as grapes cost money even if someone happens to be giving them away.

Cost of the rate: Different rates cost different amounts, just as faster cars cost more than slower ones.

Keep those two principles in mind as we go through an example.

Jane wants to get a $200,000 loan. This is going to cost Jane $4000. Now Jane has to decide what rate she wants on the money. People call up all the time and say “what are rates today”, which is exactly like calling a car dealership and asking “how fast are your cars?” Which car? What engine? How fast do you want them to be?

Lenders sell their money to brokers, and the price sheet for that money is called a rate sheet. On that sheet is the cost of any rate Jane could want. At lower rates, the lender will charge the broker, and at higher rates the lender will pay the broker. Want an example? Here you go:

The rate where the broker makes nothing from the lender and pays nothing   to the lender is called par. The closest to par on this sheet is 4.75%, in red there. As you see, the broker is actually making a couple bucks at that rate – .162 x the loan amount, to be exact. Usually, a broker will quote you a rate higher than par, so he can make some money on the margin.

This may look complicated, but it isn’t. Think of it like a car dealership. There’s the base cost, and then the sales price, which is the base plus the dealer markup. As you would expect, the better car you get, the more it costs. And just like at a dealership, a lender can sell you a crappy car for the same price as a good one, and pocket the difference. This is why, unless you have a dealer you trust, you always compare prices, and the same should absolutely hold true for mortgage brokers.

So in our example, the wholesale rate is 4.75%. The lender quotes Jane 5% as the rate for her loan. If Jane wants a better rate, say, 4.5%, it will cost .248 (times the loan amount) – this is called paying points. If she wants 5.5%, Jane should get back a chunk of money to defray her loan costs.

In other words, JANE should decide what her rate is, not her broker. The lower she wants it, the more it will cost. The higher she can stand it, the less it will cost, to the point that at some rates, the rate will pay her, and eliminate some of the cost of the loan.

Thus:

And that’s how it works. It works this way for every lender, no matter what they tell you.

Now that you know the super double-secret mortgage code, here’s the fastest way to use this knowledge to get a good deal: get three Good Faith Estimates (GFEs), one for each rate you pick. The difference in closing costs will tell you how much of the fees are loan fees and how much are rate fees. Then you can decide whether you want a great rate and more fees, or great fees and a higher rate.

See? It’s not rocket science. But I guess I wouldn’t call it simple, either.

Please, take a second

and read this: http://thebrandbuilder.wordpress.com/about/

That is the best bio I have ever read.  Ever.  I wrote a really, really good bio for Zillow, where I am an all-star and one of the panel of experts, but my bio was a cheap dime-store greeting card compared to the brilliance of Olivier Blanchard.  In his SECOND language.

Seriously, folks.  Take a second.  This guy is not one of the top 10 web guys in the world on accident.

RateWatch – What’s Coming Up?

Market Update: We’ve been trading in the same 25bp range for the last 8-9 trading days, and today seems likely to continue that pattern.  Rates continue to hold steady at just under 5%.  Next week there is a record $101 billion auction of federal treasuries, and that will very likely have a negative impact on rates, but so far, we’re not seeing any movement.

Analysis: The Fed buying seems concentrated on holding rates about right here.  That’s welcome news for the market, since it allows mortgage refinancers to plan ahead a couple of days, the first time we’ve been able to do that for about a year.  We’re still waiting for the other shoe to drop on the federal Home Affordable program that is supposed to provide refinancing opportunities for those who need loans up to 105% of the value of their homes.  As yet, there are no underwriting or pricing guidelines out for those programs.  It was promised to us at the end of the month, and that’s getting close.  So stay tuned.

Extras: Many of you are connected to me on Facebook, but you can now follow me on Twitter as well, and I promise what you’ll get is mortgage news and commentary, not my lunch menu.  Twitter can be very useful for staying abreast of things, and it’s a good way to get your questions answered as well.

Have a great weekend.  Go Jazz.

Cj

Do You Get What You Pay For?

In economic geekspeak, the price of something is the place where the buyer and the seller agree to exchange.  Heck, Adam Smith knew that a long while ago.  ‘Course, he’s a genius, so what do you expect.  Still, there are hidden things in the price of something that aren’t immediately measurable in financial terms, and that’s where a lot of us can get tripped up.  We’ve all heard that we get what we pay for.  Really?  Are we sure about that?

An example:

It’s quite cheap, in dollar terms, for me to plant seeds in January, nurture them slowly through the cold winter, then eventually transplant them into the garden at growing time.  If you’ve tried this, you know that this leads to harvesting some expensive tomatoes in the fall, because of the amount of time expended.  It can’t be properly dollar-quantified, but it’s there.

Here’s another:

I was in Hungary for a while, and had occasion to visit (thank Heaven, not to be admitted to) a couple of hospitals.  Hospitals in Hungary at this time were “free”, because of socialized medicine.  The care was abysmal.  The waiting periods were huge.  Space in the hospitals was non-existent.  Unless, of course, you paid someone money (which was illegal), and then magically you got a bed and medicine.  There was a price for those services, but it was hidden by the State under the guise of providing everyone care, so it was impossible to accurately measure.  In the US, we hide the cost of healthcare behind an opaque screen of insurance (paid for, usually, by our employers), but the principle is the same.

From yesterday:

There is a small bookstore in Lehi, Classic Books and Gifts, three doors down from where I work.  This is a bad thing for my pocketbook.  I LOVE bookstores.  They sell their books inexpensively, but nothing like as cheaply as I can get them at Amazon.  Still, I have determined that if I go down there, browse their stacks, find a book I like, and buy it for half price on Amazon, that I will get what I pay for, ALL of what I pay for, meaning that Amazon will become the bookstore for Lehi.  Somehow, I don’t think it will be nearly as fun to stare at my computer screen while I eat lunch as it would be to munch my sandwich in the Browsing Chair in front of the big window down the street.

Specifically in this case, I determined that if a book could be had from that bookstore, I would get it there, no matter how much cheaper it could be found online.  I did this because one of the things I want in my tiny town is a bookstore.  A real town requires one.  I’m willing to pay for one to exist.

It means that I buy fewer books than I would.  So be it.  My wife will actually be thrilled about that, come to think of it.

As you go out shopping today, think about what you’re buying, and not just in terms of the product itself.  Think about what comes with the product, whether it’s abusive working conditions (I won’t eat, for instance, at one of the restaurants in town, because I know what goes on there), or a community benefactor (if I eat at Porter’s Place, Bob Trepanier sticks around), or general ambiance (there’s a bookstore in my town now, did I mention?).

Think about changing what you buy and where you buy it to make sure you really want to get what you’re paying for.  I’m sure you have examples yourself.  Care to share?

Today’s Topic – Investing

Most of my posts in the Finance 101 series can be found at the Lehi page of the Provo Daily Herald website.

Today’s lesson is about investing, and you can read the entire thing here.

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