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Will interest rates go lower?

As buyers and lenders we have become somewhat spoiled. During the last few years we were spoiled to have sustained low interest rates in the mid 5s which was historically low. Of course the uneducated media got a line on that and began suggesting rates could go lower. Well, could interest rates go lower? How low can interest rates go?

First let us understand how interest rates are the source of most of the profit for lenders. Origination fees, contrary to popular belief, rarely generate any profit at all. In fact it usually costs more to originate a loan than the origination fees. Therefore the lender depends on the interest to earn a profit.

Lending money also has a cost. Money which is “on loan” carries a cost every month it is loaned and also prevents the lender from investing in other, more profitable, investments. How much it costs every month for money to be on loan varies from lender to lender and loan to loan but those costs include: office space, technology costs, payrolls, employee benefits plans, legal fees, fraud detection and ongoing monitoring, servicing fees, collection costs, and more.

Furthermore there is the cost of paying dividends to investors. Now every one of you can understand this: as an investor you must make a return on your dollars invested or you are not going to invest. So let’s say you have an IRA with $100,000 in it. You can either lend it directly through a company like Novation or you can buy a single note or you can invest into a real estate investment trust.

Investing directly into a loan through a company like Novation may earn you 10% or more annual return because you alone are taking the risk. Investing into mortgage notes you may be sharing the risk with other investors. Investing in an REIT you do not actually have ownership in any one single note and therefore most likely receive the lowest return on your investment. What is the minimum return on your investment you would like to have? Would you go as low as 2%? Probably not. 3%? Not likely. chances are to even tick your interest you are looking for a minimum of 4% APY.

Now let’s look at that question again. Will interest rates go lower and how much lower will interest rates go? Mortgages are not funded by lenders they are funded by investors. Now that you know who funds mortgages (and not it is NOT the Federal government and that’s a very long story but FNMA and FHLMC depend on investors) and you know they are people just like you do you really see them going lower than 4.5%?

Chances are rates will hover around 5% for some time with small, quick dips, into the 4% range.