When considering a VA home loan, either for a purchase or to refinance an existing VA loan, the interest rate is a key element. Rates can determine how much a borrower may qualify for as well as whether or not a refinance actually makes sense. Either way, the interest rate captures a lot of attention.
Yet sometimes interest rates can be rather confounding. Besides comparing VA loan rates from one lender to the next, rates seem to change on a regular basis. In fact, VA mortgage rates can change daily, even throughout the course of a single business day. Why do VA rates change so often and how are they determined?
First, it’s important to note that the VA does not set the rate on any VA mortgage program. Long ago, that was not the case as the VA approved mortgage applications internally, submitted to the VA by mortgage companies. Today however, interest rates are set by each individual lender.
How do lenders set their rates? Each VA rate is tied to a specific index that may be traded throughout the day. For example, VA adjustable rates can be tied to the London Interbank Offered Rate, or LIBOR which can fluctuate daily. Each lender will establish its own start rate for an adjustable mortgage but beyond that, an adjustable rate can move based upon the nature of the loan terms.
A similar method applies when VA lenders set their fixed rates for the day and each lender used the very same index when posting daily rates. For fixed rates, the index is a bit foreign to the individual borrower with a 30 year VA rate tied to what is known as the GNMA30yr 3.5 bond for example. It’s not necessary to know exactly where that index is from, but only that all VA lenders refer to it each day.
But while all lenders consider the GNMA bond, they must also compete against one another. Mortgage lenders must be competitive in the market to survive and each VA lender is keenly aware of where they stand in the market.
Yet because VA lenders all refer to the same index it means that VA rates from one lender to the next can’t be all that different. You won’t find one lender offering a 30 year VA rate at 3.00 percent while everyone else is at 4.00 percent, at least under the very same terms.
Instead, you’re most likely to find multiple VA lenders offering the same rate but with adjustments in discount points. Say a VA lender offers a 30 year rate of 4.00 percent with one point while another offers the same rate but with only one-half of one point.
Okay, but why do rates change in the first place? VA rates can change based upon the change in the index associated with the rate. For example, the GNMA30 yr 3.5 is a bond. A bond provides its investor with a fixed, known return, the only difference is the price paid for the bond. There’s a degree of safety in a bond that a publicly traded stock doesn’t have.
Generally speaking, in good economic times, investors place their money in stocks, speculating for greater returns in the price of the stock. When the economy is shaky, investors can pull their money out of the stock market and place it in a bond for a guaranteed return. Yes, bond returns aren’t as exotic as the stock market; in fact they can be rather boring.
Yet to get the guaranteed fixed return of a bond, the bond must be purchased, just like a stock. And the greater the demand for the bond, the price will rise. When bond prices go up, the yield to the investor goes down. Investors pay for the security of a bond, leaving the world of the risky stock market.
Rates have been low for an extended period of time, and much of this is due to the Federal Reserve’s purchases of mortgage bonds and treasuries. This so-called “quantitative easing” takes the shape of buying $85 billion each month. This continued buying props up the price of mortgage bonds, keeping rates low.
But once the Fed ends their bond-buying, there will be less demand for bonds of all stripes, and interest rates will be on the rise.
There’s a lot to VA rates than meets the eye. And while sometimes a complicated process, VA lenders do in fact follow prescribed methods when setting VA mortgage rates. It’s not as random as it seems.