As has been noted by many analysts, borrowers have been much less responsive to the level of rates recently. In a recent analysis, Bear Stearns researchers quantify the relative attractiveness of current mortgage rates by creating a Rate Desirability Index (RDI). The Index measures the amount of time rates have been higher than current levels over the past three years.

Bear states this index provides a snapshot of how motivated borrowers are likely to be at various rate levels. It is currently at 85, which means that over the past three years, rates have been higher 85% of the time. Given that percentage, it is surprising that prepayments haven't picked up more. In fact, the prepayment responsiveness is less than mid-summer when mortgage rates hit 6.35% and the RDI was between 40 and 50, analysts say.

So what level will cause a strong response? Bear notes that current market conditions are similar to the start of this year as far as refinancing incentive, percentage of universe refinanceable and RDI go. Two weeks into the year, though, rates had rallied 17 basis points, which raised the refi incentive to 53 basis points from 40. This caused a jump in the Mortgage Bankers Association's Refi Index to 3300 from 1700.

"Historically an aggregate refinancing incentive above 40 basis points and an RDI above 90 has been the recipe for large jumps in refinancing activity," analysts wrote.

Therefore, Bear believes the 5.6% to 5.4% mortgage rate window will initiate a strong response. At 5.6%, the aggregate refinancing incentive is 50 basis points and the RDI is 92.

Copyright 2004 Thomson Media Inc. All Rights Reserved.

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