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Last Call for Smart Homeowners

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Ever since the government bailout of Fannie Mae (NYSE: FNM  ) and Freddie Mac (NYSE: FRE  ) , the mortgage markets have seen wild swings in lending rates. So it's only fitting that to try to ease homebuyers' concerns about being able to get or refinance mortgages, the government has stepped in yet again.

The Federal Reserve announced earlier this week that it would buy as much as $600 billion in mortgage-backed securities from Fannie, Freddie, and other government-tied home-lending programs -- roughly 10% of the entire market for those securities. That news has triggered a sharp downtick in mortgage rates.

A rough time for rates
Fannie and Freddie's problems back in July crushed the mortgage market initially, as rates on 30-year mortgages spiked to their highest levels in more than five years. Ever since then, mortgage rates have oscillated wildly. Every government response to the ongoing financial crisis has been followed by a new piece of discouraging news that renews the market's fears. Consider the timeline:

  • After the government seized Fannie and Freddie in early September, mortgage rates initially dropped sharply.
  • When Lehman failed, and Bank of America (NYSE: BAC  ) agreed to buy out Merrill Lynch (NYSE: MER  ) the next week, rates headed back up again.
  • Passage of the $700 billion bailout package in October, along with later government investment in firms including Wells Fargo (NYSE: WFC  ) , Citigroup (NYSE: C  ) , and Goldman Sachs (NYSE: GS  ) , didn't ease the credit markets' concerns, with rates swinging by as much as 0.5% from week to week.

So far, November has been good for those seeking to refinance. Average 30-year rates have again fallen below 6%. And perhaps more importantly, mortgage providers are starting to see a pickup in volume -- the first they've seen in a while.

Good news for borrowers
Falling rates couldn't come at a better time for many homeowners. A huge number of borrowers face the prospect of higher monthly payments in the coming year, as once-popular option ARMs come to the end of their low-payment phase and reset higher. Low rates have two positive effects: They help keep those reset rates down, and make refinancing more attractive.

But solving the mortgage crisis isn't quite that easy. Homeowners seeking to refinance have to deal with two major problems. First, many banks have tightened their lending standards, making it more difficult to get approved for a mortgage loan. At the same time, with rising unemployment and the drop in wealth following the stock market's plunge, many borrowers have seen their personal balance sheets take a major hit. That combination will limit the number of people who can actually qualify to refinance.

Even more difficult is the impact of falling home prices on borrowing. In order to refinance, those borrowers who are underwater on their loans -- meaning the value of their home is now less than the amount they owe -- will have to find enough cash to make up the difference. It's rare to find anyone with that financial flexibility right now -- especially anyone who took out an option ARM in the first place.

No quick answers
Nevertheless, if mortgage rates can sustain their drop and stop gyrating back and forth, it'll be a good sign that government intervention in the credit markets is working. And although the financial crisis has spread far beyond its initial source in the housing market, anything that makes the housing sector begin to stabilize will give everyone an enormous boost in confidence. That may be all the economy needs to get back on its feet.

Regardless of what type of mortgage you have, lower rates make it possible that you could save some money by refinancing. Moreover, if you have an adjustable-rate mortgage, refinancing now to lock in current low rates could save you from a lot of pain down the road.

More on the ailing housing market:

If you need help figuring out how to make your home an asset rather than a liability, the Motley Fool's Rule Your Retirement newsletter can help. We don't just help people invest for retirement; since your home is often your biggest investment, we understand that you need to know how to preserve it. Take a free look at our tips with a 30-day trial.

Fool contributor Dan Caplinger got a pretty good rate on his initial mortgage, so he won't be refinancing anytime soon -- probably. He doesn't own shares of the companies mentioned in this article. Bank of America is a Motley Fool Income Investor pick. Try any of our Foolish newsletter services free for 30 days. The Fool's disclosure policy keeps you safe and sound.


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  • Report this Comment On December 02, 2008, at 2:38 AM, Mary953 wrote:

    Our kids bought their first homes this summer. Both couples chose fixed-rate morgages and knocked off several hundred dollars a month in housing expense by choosing the homes they did. The two couples, in two different states, working with two different sets of lenders, realtors, etc, were told that "they could afford a much larger home. Did they want to get a larger loan and choose a larger house?" These couples are watching friends struggle with cuts in hours or job loses (friends in many cases facing foreclosures). These couples chose to prepare for a possible difficult situation rather than overextend. I know they could have spent more and expected to be "bailed out" by us if needed but they preferred to take responsibility for themselves. Now if only certain companies would use the same philosophy.....

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Dan Caplinger
TMFGalagan

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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