The S & P 500 “Death Cross” and what it means for mortgage rates

What is a “Death Cross” and how does it affect mortgage rates?

While most economists agree that mortgage rates are trending higher in the long run, there are some signs that mortgage rates could drop in the short term. One of those signs is the so-called “Death Cross” of the S & P 500.

What is this death cross? It occurs when the 50-day average of the widely-traded index drops below the 200-day average — as it recently has. That means short-term prospects are better than long-term prospects for investment. So when the 50-day crosses the 200-day number, many believe the point shows a shorter-term decline upgrading to a longer-term downtrend.

Economic downtrend can be good for mortgage rates

While a slowing economy has many negative consequences, there is a silver lining if you’re buying or refinancing a home. Mortgage rates tend to drop when economic conditions worsen, or when there is a lot of uncertainty among investors.

That downward shift in mortgage rates has two causes.

First, when the economy slows, wage pressure eases up, and inflation is not a threat. So the Federal Reserve is less likely to increase short-term rates. And bond investors don’t demand high returns when they are not concerned about inflation.

Second, when stocks are shaky, many investors prefer to move their money into safer vehicles that don’t include the possibility of losing money. Yes, they don’t pay especially high rates of return, but they don’t need to. The need for safety outweighs the disadvantage of a low rate.

This is known as the “flight to quality.”

Soft economy = higher bond prices = lower mortgage rates

How does a weakening economy translate to lower mortgage rates? It’s just simple math. Investors purchase Treasuries or mortgage-backed securities (MBS) to hold their money safely and provide a small return. These bonds are sold in $1,000 denominations.

When bonds are issued, they sell for $1,000. That’s called “par” pricing. But immediately, a bond or MBS price changes according to economic forces.

Check today's economic report and current mortgage rates here

Suppose a bond goes on sale at 5 percent for $1,000. That means the holder will receive $50 every year in interest. $50 / $1,000 = .05, or 5 percent.

But later that week, unemployment spikes sharply, consumer prices fall and the stock market tanks. In short, inflation is not a concern, the economy frightens investors and they are willing to pay $1,300 for that same bond.

The new buyer of the bond will receive $50 a year, just like the previous owner. But having paid only $1,300 for it, the return (rate) for the bond is now lower. $50 / $700 = .0385, or 3.85 percent.

Watch the economy when floating a mortgage rate

When you have a mortgage in process, look for the death cross and other indicators to see if the economy is heating up, slowing down or spinning crazily sideways.

Some economic events have more effect than others. In general, oil prices, stock prices and Treasury Note rates are good indicators of where the economy is heading.

The monthly Employment Situation report from the government, as well as the University of Michigan’s Consumer Sentiment report, are among the most important to watch.