FRANKLIN NEWSFLASH: STOCK MARKET VOLATILITY AFFECTS THE COST OF HOME OWNERSHIP

HOW IT AFFECTS THE MORTGAGE INDUSTRY

You may not think much about the stock market when thinking of buying a house because you probably don’t think there is any relationship between the two. However, it is important to keep track of stock market performance, especially during times of volatility because it does have a direct impact on your cost of home ownership.

Cheap financing is a major driver of the mortgage industry. When buyers can access cheap funds, it serves as an encouragement to purchase houses while high interest rates dampen enthusiasm.

Prospective home buyers therefore need to keep an eye on the stock market in determining when it is the best time to make a purchase as this could mean paying more or less for your home in the long term.

HOW IT AFFECTS THE COST OF BONDS

Mortgage rates follow changes in the 10-Year Treasury note bond. Therefore, changes in the yield of this bond cause a corresponding up or down movement in mortgage interest rates.

Stocks and bonds are typically funded by the same investment money and when stock prices slump the tendency is for investors to hedge against this by “fleeing” to the relative safety of the bond market. Since mortgages form a significant portion of this market, the implication is an increase in money supply for mortgages and therefore a lowering of interest rates. This means that buyers can access cheaper funds to finance their home purchase.

Volatility in the stock prices can impact on the cost of home ownership because of its relationship to mortgage interest rates. Although it isn’t the only factor that affects mortgage rates, other economic such as unemployment rate, inflation and the effect of demand and supply are still tied to the stock market in one way or the other. The reason for this is that stock prices are quite sensitive to economic uncertainties and subsequently sends a ripple effect of changes on other sectors including housing.

On the other hand, an upward movement in the prices of stocks attracts investors leading to bonds sell-off and fund movement from bonds to stocks. The implication of this is an increase in interest rates for mortgage financing.

In the effort to stabilize the economy and control inflation, the Government, through the Federal Reserve sometimes make interventions such as the quantitative easing (QE) which affect the stock markets and hence interest rates.

As an example, in 2014, through the QE3, the Fed bought billions of Treasury bonds and mortgage-backed securities, such as the Fannie Mae and Freddie Mac, in a bid to foster housing and economic recovery. This naturally led to the lowering of interest rates and making mortgages more attractive to buyers.

Swings in stock prices and the uncertainties it creates in the economy may also lead to a gradual increase in interest rate hike by the US Federal Reserve Bank. This, in turn, would mean higher cost of funding for mortgages. If there is such hike, banks would have to obtain funds at high interest which they would in-turn pass on to borrowers.