Games with Mortgage Loan Rate Locks (Games Lenders Play Part 10)

From an email:

Our rate was locked (on our mortgage broker's recommendation) on December 4 at 5.375% for 30 days. On December 18 we finally received the rate lock form, which was dated December 17 (the prevailing rate was 4.75% on that date). No explanation was ever offered despite multiple queries. Another disclosure form said compensation would be anywhere from 0% to 5% at closing (on a 400K loan). Is the date on a rate lock form important? If the broker recommends the timing of the rate lock, should the broker be allowed to bet on declining rates? Would we have been protected had rates risen? We unwisely had asked the broker to lock us if the fabled two-hour exceptionally low rate (we were thinking 4%!) had occurred, but a few days later he locked our loan on a 1/8th point decline even though we were under no pressure to refi, the then-current rate was not particularly favorable, and all signs pointed lower (which promptly came to pass). We ended up going with our backup loan.

The date the loan is actually locked is critical, because that was the date your loan was actually locked, and the rates in effect when the loan was locked are what apply.

Many lenders tell clients the loan is locked, and bet they can earn some more money by letting the rate float. Actually, when they are doing this, they are letting the tradeoff between rate and cost float. Unless and until the loan is actually locked, any quote you may have is worthless. Available rates (and the costs to get them) change every day at an absolute minimum. Some days they go up, other days they go down. Nor is it just the bond market that influences prices. Back in August of 2003, lenders boosted rates by almost a percent and a half, just to allow their underwriting and funding backlogs the opportunity to clear out. The bond market rates didn't hardly change at all - but over a period of three weeks, the best available loan rate went from 5.125% without any points to 6.5% without any points.

They did this precisely to curb demand and give them a chance to get caught up. No collusion as far as I'm aware - but they'd been paying two hours of daily overtime for four or five months and requiring mandatory six day weeks and canceling all time off, they finally got to the point where they couldn't sustain it any more. When they caught up in October 2003, rates started dropping again, to the point where they got down to 5.25% without points again in December 2003 and January 2004, about where they should have been. But for those loans that weren't locked, they became stuck with the rates that existed in the meantime. You always have the opportunity to bail out of a loan, but if you've already spent money for an appraisal, put money out for a deposit on the loan, etcetera, you are just out of luck. The real purpose for charging a deposit on a loan is to give them leverage to get you to accept the loan if they don't deliver as good a loan as they talk about in order to get you to sign up.

There are two reasons why lenders (especially brokers, but lender branch office employees are guilty as well) tell you a loan is locked without actually locking it. Both are the result of them trying to make more money. Actually, there is a third but that's a completely different can of worms. The first two have to do with trying to scam more money from the same loan. First, a shorter lock is cheaper than a longer lock. If they tell you they locked it for thirty or forty five days, and they instead wait until they can do a fifteen day lock, that's an eighth to a quarter of a point on every loan, if the rates simply stay the same. They can also rationalize telling you about the fifteen day lock rate and cost. Second, if the rate/cost tradeoff goes down, they can deliver the same loan and make more money. Occasionally, they can even surprise a client with a marginally lower loan rate - something that is always the result of failing to lock when they should have. If rates go up, however, you're stuck - and if you think that lender or loan officer is going to eat the difference, say hello to Santa Claus and the Easter Bunny when you see them. The vast majority of all lenders try to pretend you're not going to pay hundreds to thousands of dollars in real costs on their loan quotes anyway.

(How can you tell loan quotes aren't lowballs? Ask them if they will Guarantee their loan quote, as in anything more than what's on the paper, they pay it. Very few will. Most will try to distract you by talking about how they honor their commitments, but none of the forms you get at the start of a loan are commitments in any way, shape or form. I just ate two appraisal fees for someone on their investment properties when Fannie and Freddie changed their standards to require appraisals on investment property, and still delivered the loan at the rate and cost initially agreed upon. That's a real guarantee. "We honor out commitments" is a dishonest red herring, and when it's used to answer a question about "Will you guarantee your quote?" a red flag as well that you should not do business with that lender)

The third major reason why lenders play games on loan locks is due to "pull through". Pull through is the percentage of loans a given loan officer locks that are eventually funded. Loan investors are trying to play hardball with pull through these days. There is a good reason for it, but the practical effect for the consumer is that loan officers don't want to lock loans that don't look rock solid. So quite often they don't. Until recently, some investors were giving incentives for good pull through, but at this point, the carrots have mostly gone away and it's pretty much straight penalty box for pull through ratios they're not happy enough with. Since loan standards have become quite difficult of late, many loan officers are failing to lock loans they should to prevent their pull through ratio from dropping. Some investors even want to charge the loan officer's personal credit card when we lock a loan, when the pull through ratio doesn't meet that investor's hopes.

There is nothing wrong with not locking a loan, providing the client is aware of it and concurs. If I have concrete reason to expect better rates to become available in the near future, and I persuade a client to "float" their rate, that is perfectly fine. However, until the loan is locked, the rates can also go up at any time. A loan rate that's not locked is not real until it is locked, and you certainly can't get any kind of loan quote guarantee. There is no assurance rates won't go up on unlocked loans. A rate lock is the only real assurance, and you don't have it, therefore assurance of pricing doesn't exist. With all of this in mind, I'm biased towards locking as soon as practical. The rate you want is available now, and at a price that makes it attractive. You can lock it in and know it will be there when the loan is fully approved, or take a risk of it vanishing more thoroughly than if it popped into another universe. Sometimes the risk can be something worth taking, but it's always a risk you can lose. If you lose it, you don't get the appraisal money or anything else you have spent back.

You shouldn't expect rates to make sudden major movements, where by locking in during a particular two hour window of opportunity you get a rate half a percent lower than you'd otherwise get for the same cost. That is quite rare, and I don't remember the last time I saw anything like that. More common are differences of a quarter point of discount for the same rate. An eighth point slide in the rate at the same cost is quite significant for an individual movement of rates. However, over the course of a week, rates can move much more than that. Nobody minds when they're moving down, but hoping they're going to move back when they're trending upwards is usually not going to be rewarded. Furthermore, rates tend to move down more slowly than they move up. If you've got to have a loan at a certain rate and cost target, locking in when it hits that target is recommended, and if you've missed an opportunity to lock at your target and rates are moving upwards, it's usually a good idea to make a decision whether to lock immediately or walk away from the loan. You can string hope along that rates will fall again for several weeks, but it's not likely to happen.

Caveat Emptor