Most mortgage rates edge upward

Mortgages are suffering from a bad reputation, and that led to an increase in fixed rates this week. That's the theory, anyway.

The benchmark 30-year fixed-rate mortgage rose 5 basis points to 6.34 percent, according to the Bankrate.com national survey of large lenders. A basis point is one-hundredth of 1 percentage point. The mortgages in this week's survey had an average total of 0.38 discount and origination points. One year ago, the mortgage index was 6.32 percent; four weeks ago, it was 6.5 percent.

The benchmark 15-year fixed-rate mortgage rose 5 basis points to 6.04 percent. The benchmark 5/1 adjustable-rate mortgage fell 4 basis points to 6.18 percent, largely in reaction to last week's Fed rate cut.

While the 30-year fixed was rising 5 basis points, the 10-year Treasury yield was falling 5 basis points. The two usually move in the same direction. Why didn't they this week?

Bad apple theory

Call it the Bad Apple Theory. "Everybody is soured about any kind of mortgage," says Dick Lepre, senior loan consultant at Residential Pacific Mortgage in San Francisco and author of the RateWatch newsletter. "Categorically, there's been some kind of contagion."

Lepre is alluding to two kinds of bad apples here. You have the rotten batch of subprime mortgages from 2005 and 2006, many of which are headed to foreclosure. And then there's the basket of jumbo mortgages, some of them worm-eaten and some of them perfectly fine -- it's impossible to tell them apart without peeling them. The worm-eaten jumbos are large mortgages where the borrowers overstated their incomes. Those loans are going into foreclosure in large numbers, too.

Jumbo loans were mixed together on the secondary market, regardless of whether the borrowers had fully documented their incomes or lied about them. Since the good loans were hard to distinguish from the festering bad loans, all became suspect in the eyes of investors this summer -- and jumbo rates went up as a result.

Red delicious fear

The same fear appears to be afflicting the common Red Delicious apples of the mortgage world: fully documented, fixed-rate, conforming loans to borrowers with good credit. Even though the delinquency and foreclosure rates on these loans are predictable, investors appear to be regarding them with suspicion, as if the bad apples of subprime and jumbo are spoiling the whole barrel. To make up for the perceived increase in risk, investors insist on higher rates.

Lepre says he's pretty sure that the fear of contagion is a part of what's going on. Venturing onto the thinner part of the limb, he guesses that some investors worry that the companies in the middle of credit-default swaps don't have sufficient net worth. That would sort of be like if the company insuring the quality of a warehouse full of apples went broke, right when a lot of apples went rotten. Down would go the prices of all the apples in the warehouse, rotten or not. To torture this analogy to the core, when prices of mortgage-backed securities go down, yields go up -- and that means rates rise.

Dan Green, a mortgage planner with Chicago-based Mobium Mortgage Group, sees the same thing that Lepre sees.

"When you look at mortgage-backed securities, suddenly nobody's really sure if this is triple-A-rated debt or not," he says.

At the same time, investors might be buying up Treasuries because they're so safe, driving the yields down.

Green says the economy is showing signs both of inflation and recession. It's too soon to know if we truly have entered another era of stagflation, but if we have, then rates have plenty of room to move higher.