Friday, May 13, 2011

Little Change in Mortgage Rates

It was a volatile week for mortgage rates. Troubles in smaller European nations, mixed results for the Treasury auctions, and tame inflation data caused significant movements in rates during the week. These influences offset each other, though, and mortgage rates ended the week nearly unchanged.

Although the Consumer Price Index (CPI) inflation data came in slightly higher than expected on Friday, mortgage rates improved after the news. April CPI increased 3.2% from one year ago, which was the highest annual rate in two and one-half years. Core CPI, which excludes food and energy, increased at a 1.3% annual rate. While Core CPI remained well below the Fed's target range around 2.0%, it was up from 1.2% last month and 0.8% at the end of last year, meaning that the trend has clearly been moving higher.

Inflation is negative for mortgage rates, so the question is why mortgage rates remain at the lowest levels of the year despite rising inflation data. The likely answer is that investors expect that the majority of the increase in inflation has already taken place. Fed officials have maintained that they expect the inflationary effects of higher oil prices to be "transitory", and the recent drop in oil prices has supported the Fed's position. One year ago, oil prices were around $70 per barrel, but they averaged about $110 per barrel in April, an increase of more than 50%. So far in May, oil prices have averaged about $100 per barrel, and investors don't expect that oil prices will rise 50% over the next year. Meanwhile, wage growth, a major factor in inflation levels, has been minimal in recent months. For these reasons, current inflation expectations remain relatively low.

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