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As the yield on the 10-year Treasury continues to rise, all-in rates from the GSEs are rising in concert, and then some. The 10-year Treasury closed at 3.26 on December 8, and that rise, coupled with investor spreads surging about 25 basis points in the past month, has sent the all-in rate for a 10-year loan up near 5.5 percent.

That 5.5 percent is an important milestone since it’s the underwriting floor that Fannie Mae uses in sizing a 10-year loan. For much of the second-half of 2010, it wasn’t an issue given the low rates. But with all-in rates bumping up against the underwriting floor, something has to give.

“When your rates are higher than the floor, you’re going to have loan proceeds impacted,” says C. Lamar Seats, senior vice president at Fannie Mae lender Columbia, Md.-based Enterprise Community Investment. “And it impacts the net cash flow of the borrower after the debt service is paid.”

The question on everybody’s mind now is when, or if, the GSEs will manage those rates down. Often, a dramatic rise in Treasuries is followed by the GSEs lowering their spreads to offset such a drastic jump in the all-in rate.

“I suspect that once you start to see maybe 6 percent on the rates, there will be talk of some spread tightening so that we can continue to provide an affordable product,” says Rick Wolf, who used to run Fannie Mae’s small loan program and is now a senior managing director at New York-based Greystone. “The rates are going to have to go a little bit higher before that starts to become a conversation.”

While 6 percent may be the line in the sand that hastens the GSEs to find some room for spread compression in their guarantee or servicing fees, the GSEs may also choose to wait and see what happens in the investment community in January.

Investment interest in Fannie Mae MBS has declined over the last month as many investors close out their books. But a reset always occurs in January, so healthier investor demand may be right around the corner.

“If we’re going to see any spread tightening, it probably won’t be until the first of the year,” says Rick Warren, a managing director at New York-based Centerline Capital. “Everyone’s waiting to see what happens as far as investor appetite, and what their yield requirements are pegged at.”

And the GSEs may also be waiting until some more healthy competition gives them a run for their money, given that they continue to dominate the multifamily market. 

“They’ve got to have some competition in the marketplace, with the CMBS market returning, life companies returning. That will help push their guarantee fees and servicing down as much as anything,” Seats says. “If Treasuries just go through the ceiling, there may be some spread compression, I just haven’t seen any willingness yet."