Can someone explain in laymen’s terms how mortgage rates are set by the 10 year treasury yield?

I know that investment companies buy 10 year treasuries from the US government and that as stocks become less attractive, these investment companies have more demand for the treasuries, thus the government can lower the yield they need to pay (basic supply and demand). What I don’t get is how this treasuries relates to mortgage rates. I can’t quite make the connection. Thanks in advance.

By | 2013-08-26T09:23:03+00:00 August 26th, 2013|Mortgages Home Loans Interest Rate|2 Comments

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  1. Todd S August 26, 2013 at 10:34 AM - Reply

    In short, it’s because most mortgages are paid off in 10 years, despite having terms of 30 years. e.g. early repayment, refinance, or selling the home…then because of payment default risk, they price at a premium to government guaranteed bonds…

  2. Ed Atun August 26, 2013 at 9:54 AM - Reply

    They are used because they have such a long time line. 10 year and 30 year bonds. At one time the 30 year bond and mortgage were paired. Then 30 year bonds were discontinued. So everyone used the 10 year.

    US Treasury bonds are the safest investment in the world. Everything else is more risky. So a home mortgage might be 4.5% when the 10 year bond is 3%. The difference is the “risk premium”. An investor is positive he will get his money back in 10 years with the bond. He is less certain with the mortgage. So he demands more interest for more risk.

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