As mortgage rates drop, originations in refi territory could double

Falling interest rates are bringing a greater percentage of mortgages originated within the last year into the money for refinancing, according to a new Keefe, Bruyette & Woods report.

There are some $550 billion of mortgages with rates of 4.5% or higher where the borrower would have an incentive to refi when rates reach 4%, according to KBW. That represents 15% of the 30-year rate loans in the government-sponsored enterprise market. In January, when 30-year fixed rates were at 4.5%, only $215 billion of agency loans had incentive to refinance.

Not all of the loans exposed to a rate incentive are likely to refinance, and KBW is expecting only a modest uptick in volume for lenders.

The increase in prepayments that could affect the value of mortgage-backed securities held by real estate investment trusts and other investors also is likely to be modest.

"Most mREITs concentrate in prepay-protected specified pools," the analysts said in the report. "It also suggests that the outlook for volume sensitive companies (mortgage originators/title insurers) will not improve much unless we see a more meaningful rally in rates."

Mortgage rates have generally followed 10-year Treasury bond yields lower since mid-November. The 10-year yield has fallen nearly 40 basis points over the course of the month to a point just shy of 2.4%. It was nearly 2.8% at the start of the month.

The 30-year mortgage rate has dropped since Nov. 7, when the average weekly rate was at a seven-year high of 4.94%. By March 21, the weekly average for the 30-year fixed-rate mortgage was 4.28%.

The majority of refi activity will likely come from borrowers with newer mortgages.

"Seasoned borrowers with rates of 4.5% or higher had the chance to refi when rates briefly dipped below 4% in late 2017, and prior to that, mortgage rates trended below 4% for about two years leading up to the 2016 election," according to the report written by KBW analysts Bose George, Eric Hagen and Thomas McJoynt-Griffith.

"However, the speed at which rates have come down recently could prompt more activity from the seasoned cohort. Plus, ongoing home price appreciation over the last few years suggests there may be more cash-out refi capacity at current rates," the analysts added.

If mortgage rates fall another 50 basis points, there could be an even more meaningful increase in refinance volume.

Refinance application volume increased by 4%, and made up 39.2% of all mortgage applications, according to the Mortgage Bankers Association’s most recent report, which reflects the week ended March 15.