So much for market calm.

The mortgage market tanked yesterday when, in response to conflicting data about growth and inflation, San Francisco Fed President Janet Yellen said “watchful waiting” is the Fed’s likely next step.

This surprised markets because most expect the Fed to lower the Fed Funds Rate within the next few months.

The Fed Funds Rate does not control mortgage rates, but it can have an impact.

This is because the Fed Funds Rate is related to Prime Rate, the basis for most bank-to-business lending (i.e. business loans) and bank-to-consumer lending (i.e. credit cards, home equity lines of credit).

When the FFR drops, it’s signals that inflation is less of a threat and that is what moves mortgage rates. As the cost of living slows (or falls), mortgage rates tend to fall with it.

So, when Yellen alluded that the Fed may not drop the FFR as soon as markets anticipated, it signals that inflation is still a concern. Mortgage markets unwound in response and rates surged higher.

(Image Courtesy: Federal Reserve)

Mortgage rates have been fairly lazy this week, reaching a near flatline. Even the much-talked about housing data didn’t do much to unperch markets from their current levels.

This afternoon, Fed officials Yellen, Fisher, and Mishkin each speak to the public in separate appearances. If data can’t move mortgage rates, perhaps opinion can.

Of the group, only Mishkin is a voting member on the committee that sets the Fed Funds Rate. All three, however, can influence markets with their remarks.

With the Fed’s next meeting set for May 9, 2007 and some key data expected between now and then (i.e. employment, PCE), expect markets to look for clues to a Fed bias.

If markets interpret the speakers’ comments to mean that the economy is running out of control, mortgage rates will move higher. If the comments show a softness, expect mortgage rates to fall.

According to all of the headlines, existing home sales are down across the country. Way down. Check out this sampling:

• Sales of Existing Homes Plunge Steeply (NY Times)
• Existing Home Sales Plunge In March (Houston Chronicle)
• Existing Home Sales Plunge, Biggest Retreat In 18 Years (Salt Lake Tribune)

However, it’s important to keep these statistics in perspective.

Nationwide, housing may be showing softness, but real estate is a highly local phenomenon and different local markets across the county may be showing signs of strength.

As one example, New Home Sales posted an increase last month. The biggest difference between Existing Home Sales and New Home Sales is that new homes are purchased from builders.

There are no blanket truths that apply to any real estate market so it’s still important to do your homework when shopping for a new home.

Even as sales fall overall, the buyer is not in the driver’s seat necessarily. A seller with a well-maintained home that is priced fairly will still sell quickly — and maybe that’s something that builders have figured out.

The appraisal of a home can be a bit frightening. After buyer and seller have agreed on a price and signed a contract, a mortgage lender will send an independent professional to verify that the price is “reasonable” and fair.

The appraisal process begins with a licensed appraiser making a thorough inspection of the home, its dimensions, and its fixtures. Aside from measuring square footage and counting rooms, the appraiser also looks for structural integrity and home quality.

He ignores the dirty dishes that may be in the sink, or the unmade bed — they have no bearing on a home’s value.

After inspecting the home, the appraiser uses databases to find the prices at which similar homes have sold in the immediate area.

For example, if comparing to a 3-bedroom, 2.1-bathroom home, the appraiser will look for other 3-bedroom, 2.1-bathroom homes to compare against. Once identified, the “comps” are adjusted for features. A finished basement may add $10,000 of value; a new roof may add $10,000; a detached garage may decrease a home’s value by $15,000.

The process is called “gridding” and it’s all up to the opinion of the appraiser. This is also the step that determines how good the appraisal is.

A poor choice of comparable properties, or out-of-the-ordinary gridding adjustments will doom an appraisal in the eyes of a mortgage lender. The lender, of course, has its own in-house appraisal department that performs a quality review on most appraisals that come through the door.

If your home’s appraiser uses bad comps, ignores a recent sale that should be a comp, or doesn’t account for the local market conditions, the home appraisal will get flagged.

Aside from introducing time delays — the appraised value of the home may be cut to something less than the purchase price.

Regardless if you are buyer or seller, this is an unwelcome event. As a buyer, an appraisal may reveal that you paid more for a home than what other similar homes have sold for. As a seller, your buyer may walk away from the deal because they feel “cheated”.

The best way to avoid appraisal issues is to price your home appropriately at the start and use your real estate agent’s help in determining fair market value.