Money market rates hurt by the mortgage business
September 26, 2011
The 2008 financial crisis demonstrated just how interconnected the seemingly disparate parts of the banking business really are. When something happened to one business segment, its effects showed up in seemingly unconnected areas of the industry. So perhaps it should be no surprise that money market accounts suffer when the mortgage business stumbles.
This is precisely what happened in the first quarter of 2011. Mortgage revenues took a sharp hit at many banks, which helps explain why money market rates continued their slide toward zero.
Money market accounts and mortgages: making the connection
Money market customers are savers, while mortgage customers are borrowers, so what's the connection? Well, one of the ways banks finance the interest they pay on money market accounts is by turning those deposits around and lending to mortgage borrowers. Naturally, banks are seeking to make a profit on this exchange, via higher mortgage rates and processing fees.
The more profitable the mortgage business is, the more banks can afford to pay in money market rates. When the mortgage business is less profitable, banks aren't particularly interested in attracting capital--and this lack of interest shows in the uninspiring current money market rates.
Money market rates and mortgage rates go their separate ways
You might think that the natural connection between money market accounts and mortgages is that they are both associated with interest rates, and thus likely to see their rates rise and fall at the same time. This is consistent with the notion that money market accounts represent savers and mortgages represent borrowers--if you think of them as being on opposite sides of a transaction, you'd think one would benefit at the expense of the other as interest rates went up and down.
However, this has not been the case, in part because money market rates and mortgage rates have gone their separate ways. Mortgage rates bottomed out at 4.23 percent last October, and have since risen to 4.84 percent. Money market rates, on the other hand, have continued to fall, from 0.25 percent last October to 0.21 percent now.
This divergence is partly because money market rates are considered short-term interest rates, while mortgage rates are long-term rates, and the two do not always move in lock-step. Another part of the reason is that there is more to the profitability of the mortgage business than just the level of mortgage rates. This second point proved to be very significant in the first quarter of 2011.
What's ailing the mortgage business?
If interest rates were all that mattered, the fact that mortgage rates rose while deposit rates fell should mean higher profits for banks, and yet American Banker reports that many banks saw the bottom fall out of mortgage profits in the first quarter.
There were various reasons given for this, including a drop-off in loan origination volume and increased costs of complying with Dodd-Frank regulations. The silver lining is that while mortgage revenues fell from the previous quarter, they held steady year-over-year. Plus, some banks are responding by getting more aggressive about cultivating mortgage business.
All of this could set the stage for an improvement in the mortgage business as the year goes on. In turn, that could eventually mean some good news for money market accounts.
