The Effect of 10-Year Treasury Bonds on Mortgage Rates

Mortgage rates are closely related to Treasury note rates.

The current interest rates on the 10-year Treasury note and for 30-year mortgages are closely related. The FHA guarantees a large percentage of new mortgages and these mortgages are eventually sold to investors as Fannie Mae or Freddie Mac securities, which compete with Treasury notes for investor's dollars.

Identification

The 10-year Treasury note is the safest, most widely followed long-term bond investment. The secondary market in Treasuries is very active and interest rates can change quickly with bond investors expectations on long-term interest rates. The 10-year Treasury rate is also used a a benchmark for corporate bond rates as well as mortgages.

Function

Most mortgages are packaged into investment pools and sold to investors. These mortgage-backed securities must pay a rate above the Treasury rate to attract investors, since mortgages are, by their nature, riskier than the federal government's debt. Mortgages also have servicing companies that are paid from the interest paid by the mortgagors. The rate needed by investors plus the mortgage service company fees lead to the fact that current mortgage rates must be a certain level above 10-year Treasury rates to keep the mortgage backed securities system functioning.

Significance

A pool of mortgages that makes up a mortgage backed security has a typical lifespan of about 10 years. This similarity of maturity is why the 10-year Treasury note rate has the most influence on mortgage rates. As the Treasury note interest rate increases and decreases, the rate on 30-year mortgages runs in parallel.

Effects

The historic rate spread between 10-year Treasury bonds and 30-year mortgages is between 1.5 and 2 percent. In early 2009, the spread jumped to over 3 percent due to the effects of the financial and housing crises. By late 2009, the spread was back in its historic range. Individuals who want to apply for a mortgage soon can watch the 10-year Treasury rate to get an indication of the direction in which mortgage rates are likely to move.

Potential

Watching the spread between the 10-year Treasury and mortgage rates can give you an idea of whether mortgage rates are too high or low relative to the Treasury. The Bankrate.com website (see the Resources section) updates the rate of the 10-year constant maturity Treasury every week. Use this data to compare with currently available mortgage rates. Mortgage rates are usually about 1.7 percent higher than the Treasury yield.

References

• HSH Associates: What Moves Mortgage Rates?
• Calculated Risk: Mortgage Rates and the 10-year Treasury

Resources

• Bankrate.com: 10-year Constant Maturity Treasury