by Kevin Whatley (NMLS #113781)

North Korea agreed to shutter its main source of plutonium today in exchange for energy and food considerations after months of negotiations with the United States and other countries. The agreement did not specifically address the disarmament of existing nuclear weapons.

News like this is a mixed bag for mortgage rate shoppers based on how markets interpret the story; North Korea’s nuclear program has a history reaching back to 1993.

If markets view this concession by North Korea as the first step towards complete disarmament, market geopolitical risk is reduced. Bonds lose their luster as a "Safe Haven" security and mortgage rates rise in response.

On the other hand, if markets believe that North Korea merely stalling for time as they continue their nuclear weapon testing, then mortgage rates will decrease as Terror Risk re-enters bond pricing and drives yields down.

Despite the dearth of economic news last week, mortgage rates staged somewhat of a rally. By the time the week ended. mortgage rates had retreated by half of the prior week’s major run-up. The week was not without fireworks, however. In prepared remarks, Dallas Fed President Fisher dropped a hint about future Fed rate hikes and that was enough to put markets on watch. In response, there was a late-Friday run-up and mortgage rates entered the weekend on an upward tick.

This week brings a host of data to digest including Retail Sales (Tuesday), PPI (Friday) and Housing Starts (Friday). Taken individually, these are powerful pieces of data, but this week, all three will take a backseat to Federal Reserve Chairman Ben Bernanke’s semi-annual testimony to the Senate Banking Committee scheduled for Wednesday.

Bernanke’s speech will not be sugar-coated and market participants will dissect his every word for clues about the economy. If markets perceive weakness in Big Ben’s words, expect mortgage rates to fall. If markets perceive strength, expect mortgage rates to rise.

As the week closes today, three Federal Reserve Presidents are set to deliver speeches.

The most well-known of the speakers is Dallas Fed President Richard Fisher. Fisher is known for speaking candidly and has produced a plethora of sound bites over the years.

Also scheduled to speak are Cleveland Fed President Sandra Pianalto and St. Louis Fed President William Poole.

Markets expect all three speeches to repeat the Federal Reserve’s outlook of moderate economic growth and easing inflationary pressures. If any of the three deviate from the script — especially Poole who is now a FOMC voting member — expect markets to react in kind.

The Bank of England and the European Central Bank left their benchmark lending rates unchanged today. Both alluded, however, to the need for future rate increases and these policies can have a direct impact on domestic mortgage rates.

When strong governments issue debt (i.e. bonds), it is "guaranteed money" and, therefore, risk-free. When nations with risk-free debt talk about raising rates, foreign investors know that a higher rate of return will be available without a corresponding increase in risk.

In order to buy these bonds, global money will often flow out from areas of lower relative returns (i.e. United States) and into areas of higher relative returns (England, Europe).

As traders sell U.S.-dollar denominated bonds, the supply of them increases. and the prices go down. When bond prices go down, the yields go up. Higher yields equates to higher mortgage rates.

Last week, the Federal Open Market Committee held the Fed Funds Rate at its current level and indicated that the economy is expanding at an acceptable pace. This morning, however, a Federal Reserve Bank President delivered a public speech to the contrary.

In prepared remarks to the local Chamber of Commerce, Philadelphia Federal Reserve Bank President Charles Plosser warned, "My own assessment is that with growth prospects of the economy improving, there is some risk that we may not see a return to price stability unless monetary conditions are further tightened."

Don’t be confused that a Fed member speaks out against the Fed policy; this is normal behavior. When the FOMC meets eight times annually, their goal is to discuss economic conditions and then vote on monetary policy. Just like a corporation, when management makes a decision, it is considered to be a "consensus" decision — even if several people involved in the decision dissented.

Plosser is not a voting member of the FOMC, the group within the Federal Reserve that determines the Fed Funds Rate.

Home equity is created in one of two ways (assuming increasing home value and a non-negatively amortizing first mortgage).

In the first method of creating equity, the homeowner pays down the principal balance on the mortgage. This increases the difference between what is owed on the home and what the home is worth.

In the second method of creating equity, a home’s value increases over time. This increases the difference between what is owed on the home and what the home is worth.

Because both methods create equity, homeowners often confuse the two.

In Method #1, the homeowner takes dollars from a paycheck that have already been taxed and places them "on deposit" with the home. The money can only be recaptured when the homeowner sells the home or remortgages.

In Method #2, the home itself creates value. The extra "dollars-on-paper" can be paid as real dollars when the homeowner sells the home or remortgages.

The differences are subtle, but important. Method #1 depletes the homeowner’s personal funds to "create" equity and that means that no new wealth is created. Method #2 uses no personal funds at all.

When considering your personal mortgage plan, remember that principal paydown and home appreciation are not equals with respect to building equity.

Last week was not for the weak-hearted as mortgage rates bounced around like a fumbled Super Bowl football. In a widely-expected move, the Federal Reserve held the Fed Funds Rate at 5.25% for the fifth consecutive meeting, stating that growth is "moderate" and that inflation pressures may be subsiding.

Consumer spending represents two-thirds of the economy and — pick your measurement of choice — consumers are doing their part to propel the economy forward. In 2006, personal income increased 6.4% over the year prior. The Personal Savings Rate, though, was down to -1.0%, the lowest since the Great Depression.

In other words, people are earning a whole lot more and spending every last penny. It’s no wonder that GDP grew 3.5% in the fourth quarter. If the spending is sustained and the economy rapidly expands, mortgage rates will move higher in response.

With a slow week ahead of us, look for the bitter cold across the country to provide fuel to oil markets, pushing prices higher.

This morning’s Non-Farm Payrolls report showed that 111,000 new jobs were created in January, short of Wall Street’s 155,000 expectations. The weaker-than-expected figure did not give mortgage markets a reason to rally, however, because December’s figures were revised higher by 39,000 and November’s by 42,000.

Traders have shrugged off the data for three major reasons:

1. Constant revisions to previous releases makes it hard to tell what the data exactly means. December was revised upward 23%; November by 27%.
2. The unemployment rate rose slightly suggesting that consumers will have fewer dollars to fuel the economy
3. Wage growth slowed, again giving Americans less money to pump back into GDP

Oh, and as we head into Super Bowl weekend, don’t forget that many Chicago-based bond traders already have one foot in Miami.

The FOMC left the Fed Funds Rate at 5.250% yesterday, signaling controlled growth in the months ahead. Most notable was the press release’s inclusion of "tentative signs of stabilization" with respect to the housing market and the removal of references to high energy prices.

Because the FFR did not change, the FFR-derived Prime Rate also remains unchanged.

Prime Rate is 8.250%, the same level at which it has held for the past seven months. For holders of credit card and home equity line of credit debt, therefore, this is good news because rates for both of these credit instruments are based on Prime Rate.

Overall, mortgage rates retreated following the FOMC annoucement to their lowest levels in five days.