[Note: The examples and numbers used below  are meant to  illustrate mortgage pricing  concepts.  If you are shopping for a mortgage you should use out contact form for current interest rate updates and market developments. The 2007/2008 mortgage crisis has led to many, many changes in pricing structures. Rates have become much more FICO sensitive.  We use the older ratesheets sometimes because they are simpler for a beginner to understand.  Current FNMA\Conforming have more credit score adjusters than the ratesheets below. We will post updates soon. ]

An Explanation and Illustration of Yield Spread Premiums

Yield spread premium is a term used in the mortgage industry to denote the difference in the Wholesale "Par" rate available to mortgage brokers and bankers and the retail rate charged to consumers. In the mortgage broker's case it is a rebate paid to the broker by the bank they are brokering the loan too, while for a mortgage banker it is the profit they receive when selling the loan on the secondary mortgage market or to another bank. Yield spread premiums are expressed in points and they directly translate into the rate you are going to receive when closing. The differences in rate quotes you receive when calling different lenders (assuming they are working with the same credit profile, ltv , etc) can usually be directly attributed to the different "markups" or yield spread premiums they choose to work off of. We are going to illustrate the concept with a few examples from actual ratesheets:

The following is an excerpt from a ratesheet issued by a major national bank on August 31,2006 at 8:30 AM in the morning. It shows the bank wholesale rates for full documentation conforming (below 417,000 on a single family home) and jumbo mortgages (above 417,000) on single family homes. This is an illustration to outline the concept of how YSPs work by using examples of the most commonly sought after full doc loans. In reality pricing loans is much more complex because not all borrowers are full doc applicants and there are pricing adjustments that depend on a wide variety of factors such as the individual borrowers credit, down payment, type of home - 1,2,3,4, family. etc. We will get to pricing adjustments below in our second example, for now we will stick to a common lending scenario in order to get a very quick overview of how YSPs work.

(Note: In the ratesheet above an example of a wholesale "Par" rate would be 6.000 % in the 15 day 30 year fixed, Conforming fixed rate product column. Note the 0.000 in that column.)

Let's say a husband and wife couple are going to buy a single family home in Springfield USA for 350,000. They both have good credit, are salaried W2 employees, have stable employment are going to put 10% down and will fully verify their income, employment and assets. These borrowers would qualify for a conventional FNMA conforming Full Doc loan (this is one example of a borrower profile, We are using our example for illustration purposes because it is the easiest loan to price. Other types of loan programs can be much more complex in their pricing structure and we will have to get to them later.)

Our couple starts to call a few banks on the morning of August 31st, to get a feel for the rates that are out there. They are well prepared and give the loan officers all the specifics of their situations. They are somewhat knowledgable, have checked their credit and know the type of loan they are looking for, in this case, a fixed rate 30 year conforming full doc loan. Let's say the husband and wife team each call seperate banks in order to save time. The wife calls Bank A for a rate quote and is told 6.5%. The Husband then calls Broker B and is quoted 6.625%. The wife calls Broker C and is quoted 6.375%. They get together to compare quotes and decide first they are going to go see Broker C who is at 6.375%. They want to meet in the Broker's office to get a feel for the company, see the office and know who they are dealing with. When calling Broker C they realized they called the main office which is four towns away and that there is a local branch of the same brokerage in their town. They decide to go to Branch 5, their local branch, of Broker C. They have made an offer on a home they think is going to be accepted that day and want to start the financing process right away. They started calling at 9:30 in the morning and by 10:30 they arrive at Branch 5 of Broker C. When they first called the main office of Broker C, the wife was quoted 6.375%. They assumed when they arrive at Branch 5 in their town the rate would be the same. They have heard good things about the company from a friend who also received a competitive rate when buying a home the year before. They have seen Broker C's ads on TV and in Newspapers promising the lowest rates in town and it seems to be true. They walk into Branch 5, sit down with another loan officer, give him all the details and at 10:50 AM in the morning are quoted a rate of 6.625%. They are both a little surprised, they had given everyone the same information and profile. They explain they had called Broker C's main office at 9:30AM and were quoted 6.375%. The loan officer explains that 6.375% is the rate they give to people who are putting 20% down and that a mistake must have been made (he pulls out a newspaper ad and shows them the fine print). Our couple is dismayed because they are pretty sure they gave the first loan officer at Broker C accurate information. The loan officer convinces them to fill out an application anyway while they are in the office since rates change daily and they may be able able to lock it at 6.5% next week. Our husband and wife decide to go ahead despite the fact they have many questions about interest rates in their mind They have been house shopping for months and really want the home they mad an offer on. They want to be able to tell the seller that day they are close to being approved for a mortgage.

In order to understand what happened to our couple it would take quite a bit of knowledge of how loan officers quote rates. In our scenario the loan officers involved where most likely looking at a rate sheet like the one above. It shows interest rates on the left in each box under each different loan term and then another set of number in the columns to the rights under the headings, 15 day, 30 day, 45 day. Those numbers on the right are the yield spreads for different rates (the 15,30,45 day headings are the term of the ratelocks). They are important because they determine how much a mortgage broker makes when brokering a loan or how much a mortgage banker makes when selling the loan. All banks, not just mortgage brokers and mortgage bankers markup a yield spread when writing a loan. There is no way to avoid them unless you are the Bank president (or to pay points). The question then becomes what is a fair yield spread?

Most regular banks, C*ti*Bank, W*am*, Ch*se, etc. will markup their mortgages with a 1.5 to 2.25 point yield spread. While a very competitive mortgage broker or mortgage banker will write a loan with a 1 to 1.375 point YSP depending on the size of the loan. There are a variety of other factors of how banks justify/rationalize different yield spreads, aside from the loan amount. Those include the local market and how competitive it is, the banks own expenses and cost structure (rent, payroll/salaries,advertising and other overhead) and, the riskiness of the loan, etc. Those are the legitimate explanations among reputable lenders, there is also a whole class of unscrupulous lenders that simply charge more to make as much as possible. Unscrupulous lenders may try to make 2 or 3 point yield spreads and a origination fee of 1 or 2% on top, resulting in a gross profit of 3, 4, 5% or more on a loan.

Back to our ratesheet, how to read it and what are the YSPs in the example above. We are going to focus on the box on the top left hand corner where it says 30 year fixed under conforming fixed rate products. In our example above Bank A quoted 6.5%, let's also assume they mentioned it was a 30 day ratelock (for more on ratelocks click here). To determine the YSP one would go to the 30 year fixed box, under the rate column go down to 6.5% and then go across to the 30 day column and the number is 1.625. That is the yield spread premium, somewhat typical of a major national bank. If Bank A decided to not keep the loan in it's portfolio and instead sell it to Bank E they would make a gross profit of 350,000 times 1.625% which would be $5687.50

Let's figure out Broker B who quoted 6.625%. Broker B also mentioned it was a 45 day ratelock. Brokers have to outsource part of the loan process which sometimes means it takes a little longer. They therefore like to have a little extra time. If we go to 6.625% under 30 year fixed and then move over to the 45 day column we see a YSP of 2.000. If Broker B then brokers the loan to Bank E, Bank E will pay the broker a "rebate " of 2 points. Broker B will make a gross profit of 2% times 350,000 which is 7,000. In this case for a couple with good credit, good income, stable employment, 10% down, a 2 point YSP is not a very good deal. They deserve to find a broker who can write a loan at a YSP of 1 to 1.375. On our ratesheet the broker could have went all the way down to a 1 point YSP (most banks will not go below 1 YSP, brokers are required to make at least 1 YSP--- see figure) on a 45 day ratelock and quoted the couple 6.375% instead of 6.625% a .25% difference.)

The story with Broker B can get more complicated. The bulk of the time cases brokers like Broker B are just too pricey. On other occassions, however, rates are quoted without complete info, not knowing the borrower's credit, exact income, doc type etc. In our example our couple provided it to them so we are assuming Broker B was being diligent and took the time to give an exact quote, in which case his quote is to high. In real life, however, many times rates can be quoted with the possibility of an adjustment in mind. Below is an excerpt from the same ratesheet with price adjustments for different scenarios.

Conforming full doc rates are usually a good, quick, if not perfect way to compare banks and brokers against one another because the approval guidelines are overwhelming determined by Fannie Mae and fairly similiar from lender to lender. The above is a simple example meant for illustration purposes only to convey a basic initial understanding of how yield spreads work and broker/banker profit margins per loan are determined. Most brokers/bankers throughout the U.S are going to try to make 1.5 to 2 points YSP (many will try for 3 by overemphasizing the riskiness of the loan. Some may even attempt an outrageous 4,5 or 6 points, although it much harder after the greater public scrutiny of the mortgage market in 2008. Before 2006 it was very, very common). A handful of very few professionals will always try to go for one.

Since there is a wide range, another way to visualize what is basically competitive and what is not in terms of gross profit per loan on a scale is the table below.

Low Retail        Mid/Average Retail         High To Very High Retail

1-1.375             1.375 - 1.625                     1.75-2.125

Typically anything above 2.5 points, unless it is a very difficult, unusually risky or unique loan is considered to be on the spectrum of thievery. Full Doc borrowers will usually have a much easier time getting a better price spread on the lower end of the scale than stated/less than full doc borrowers.

(Note: The above retail table is for loan amounts of at least 150,000 to 200,000)

Back to general pricing for a moment:

When borrowers get into other scenarios, such as very low down payments, jumbos, Stated or No Doc loans, superjumbos, etc. pricing ofter becomes much more complex. Your are still looking for competitive yield spreads however when all factors are taken into consideration. (Note: As A result of the 2007/2008 mortgage crisis, even once simpler FNMA pricing has become more complex with many more rate adjustments for different credit scores and LTVs.)

In a healthy mortgage market their are literally dozens of different loan, constantly changing programs and variations in the mortgage marketplace and it often takes even fairly intelligent new loan officers/professionals at least a number of weeks if not months to be able to grasp and quickly apply all the criteria to specific loan scenarios. In many banks, depending on the level of training provided and degree of professionalism expected, their are loan officers who have been employed for years yet have not become fully comfortable with pricing their own loan scenarios. A great deal depends on the banker or broker's training philosophies and whether they prefer educated staff or simply salespeople who bring the applications in (irregardless of how they sell the consumer) and leave a great deal of the heavy work to someone in processing or a trader/senior loan officer/manager whose job it is to handle pricing and ratelocks. The non-competitive rate you are being quoted may not be always be the fault of the loan officer on the other end of the phone. He may be misquoting because:

1. He is lying and just trying to get you application in order to bump your rate up much further at ratelock time.

Or-

2. He may be fielding too many requests at once and may genuinely not have the time to calculate an accurate quote. Some loan programs are very complex, and genuine mistakes can be made.

3. He is poorly trained and does not know how to accurately compute rates.

4. He is told what to quote by management and has no pricing or negotiating authority at all.

You can even find all 4 of the above situations at the same company. Some loan officers may be outright liars. A few may have pricing authority, while some may not. There is a tremendous amount of turnover even at major institutions in their sales divisions so you have a very high chance of running into someone who has not been fully trained. Management may switch policies of allowing loan officers to price loans and dictate all rates if they feel the salesforce is selling too low. One branch may be run with a different policy than others depending on the sales manager. It is usually a very fluid, changing situation and consumers will usually have an extremely difficulty, if not impossible time of figuring out what is happening in order to make an informed timely decision. For most picking a lender almost always at some point turns into an act of faith.

LSpros has access to most industry sheets and the lenders we work with know ahead of time they must offer our referrals competitive pricing.  We are very, very familiar with mortgage industry rate games and can help you navigate the rateshopping process with much more ease.

 Here are the rate adjusters

We want a fixed rate 30 year stated income so we go to the box in the upper left where it says 30 year fixed under non conforming prime. We then have to go to the rate adjustment table and see what adjustments there are for our scenario. We are putting down 20 percent so we go to the column with a 70.01-80.00 LTV (20 percent down translates into an Loan to Value Ratio of, LTV, of 80%}. We then go to 2 units on the 70.01 - 80LTV column since we are buying a 2 family. There is a .250 point adjustment which we note.

We continue going through the table for other adjusters. It is a Fixed rate (FRM) VOA (Verification of Asset) Stated Income so we go to the 70.01-80 LTV column and find an adjustment for a .250 point. We write that down.

We keep going down the list of adjustments to see if there are any more that apply. Our credit score is 650 and in the 70.01 - 80 LTV column we find an adjustment for another .250 point. We make a note.

It's now time to tally up all the adjustments after we are finished going through the table. We have to now add them all up and come up with one figure. Our adjustments are:

2 units - .250 point

VOA (FRM) Stated - .250 point

650 Fico -.250 point

Total .750

Our total adjustements are .75 points.

We take that total and then go to back to our 30 year fixed rate table on the upper left in figure.

We want a fixed rate 30 year stated income so we go to the box in the upper left where it says 30 year fixed under non conforming prime. We then have to go to the rate adjustment table and see what adjustments there are for our scenario. We are putting down 20 percent so we go to the column with a 70.01-80.00 LTV (20 percent down translates into an Loan to Value Ratio of, LTV, of 80%}. We then go to 2 units on the 70.01 - 80LTV column since we are buying a 2 family. There is a .250 point adjustment which we note.

We continue going through the table for other adjusters. It is a Fixed rate (FRM) VOA (Verification of Asset) Stated Income so we go to the 70.01-80 LTV column and find an adjustment for a .250 point. We write that down.

We keep going down the list of adjustments to see if there are any more that apply. Our credit score is 650 and in the 70.01 - 80 LTV column we find an adjustment for another .250 point. We make a note.

It's now time to tally up all the adjustments after we are finished going through the table. We have to now add them all up and come up with one figure. Our adjustments are:

2 units - .250 point

VOA (FRM) Stated - .250 point

650 Fico -.250 point

Total .750

Our total adjustements are .75 points.

We take that total and then go to back to our 30 year fixed rate table on the upper left in figure.

Lets say we found a very competitive broker who is trying to make a 1 point YSP on a stated income (extemely rare for most bankers or brokers on Stated Income deals). After he has totaled all the adjustments (.75 points) he refer to the rate table. In order to determine the YSP he will make he takes the adjustments , .75 points in this case and subtracts it from 1.670 which he gets from the 30 day ratelock column at 7.375%. That's how adjustments work on rate tables. When our broker subtracts .75 points from 1.67 he is left with a yield spread of .92 points. That is still less than his goal of at least 1 point profit. Therefore on the good faith estimate he will probably charge another .125 or in most cases .25 point to put the total over 1 point gross profit. If he was trying to make 2 points profit, he would charge at least another point upfront or in the form of an origination fee.

That was an easy Stated Income loan to price and a simple example of how pricing adjustments work.

(We put if up for illustrative purposes only. Stated Income prcing has changed much after the 2007/2008 mortgage crisis and if they are available at all, the rates are likely to be much higher, with FICO scores starting at 680 to 720. For current pricing if you are a Stated Income borrower, please fill out our short online form, and someone from LSPros will be able to run you through more current, up to date scenarios.)