This post comes from Marilyn Lewis at MSN Money.

Mortgage rates dropped just a smidgeon this week, falling below 4% and breaking an important and historic psychological barrier for the second time this year.

The average 30-year, fixed-rate mortgage now sells for an average 3.99%, according to the Freddie Mac’s Weekly Primary Mortgage Market Survey. To get that rate, homebuyers and refinancers are paying an average 0.7 point (a point is a fee, about 1% of the loan amount.)

In reality, this is a wee drop from last week’s 4% average. Likewise, the 15-year fixed-rate mortgage dropped a hair, from 3.31% to 3.30% with a 0.8 point paid.

It was the second time this year that rates breached the historic 4% barrier. On Oct. 6, Freddie’s survey reported rates had fallen to 3.94%, the lowest recorded by the survey, which began in 1971. At this time last year, 30-year fixed rates were 4.17%, which seemed impossibly low at the time.

The Christian Science Monitor’s Paper Economy blog has an inpressive chart illustrating the trajectory of rates since 2007.

Little help
But with access to credit still tight and 28.6% of American homes with negative equity or “underwater,” and therefore ineligible for most lenders’ refinancing programs, the low rates are doing the economy little good, if any.

Bloomberg Businessweek writes:

The drop in borrowing costs has done little to spur home sales as as tighter lending standards, an unemployment rate around 9% and declining property values erode buyer confidence.

The article continues:

 ”Low interest rates are having hardly any effect,” said Patrick Newport, an economist at IHS Global Insight in Lexington, Massachusetts. “They might help a little, but so little it doesn’t show up in the data. Maybe the data would be worse if mortgage rates were 5%.”

USA Today says:

The low rates have caused a modest boom in refinancing, but that trend also might be waning. Most people who are creditworthy enough to refinance have already locked in rates below 5%.

Still, the low rates moved the needle of the Mortgage Bankers Association’s Weekly Mortgage Applications Survey. In the week ending Nov. 4, purchase applications increased 10.3% from the week before. Refinancings, which were 78.6% of all the mortgage sales, increased 12.1% from the week before. Post continues below.

Mike Fratantoni, an MBA spokesman, attributed the ultra-low rates to demand for U.S. Treasurys sparked by economic turmoil in Europe and a “flight to quality” of investment capital. Demand for Treasurys is linked to low mortgage interest rates. (HSH.com describes the link here.)

Home sales in September dropped 3% from August (October data will be out Nov. 21). But they’re up 11.3% over this time last year, according to the National Association of Realtors. The market for resale homes has stabilized, but at a low level, according to Lawrence Yun, the NAR’s chief economist:

“The irony is affordability conditions have improved to historic highs and more creditworthy borrowers are trying to purchase homes, but the share of contract failures is double the level of September 2010. Even so, the volume of successful buyers is higher than a year ago and is remaining fairly stable – this speaks to an unfulfilled demand.”

“Many Americans don’t want to sink money into a home that could possibly lose value the next three to four years,” USA Today writes.

The negative-equity trap
CNBC’s Diana Olick said, “The lower those prices go, the more American borrowers fall into an negative equity position; that is, they owe more on their mortgages than their homes are worth.”

Olick quotes mortgage analyst Mark Hanson, who says the problem is even worse than it appears:

Over 50% of all mortgaged households in the U.S. are effectively underwater — unable to sell for enough to pay a Realtor and put a down payment on a new purchase without coming out of pocket. Because repeat buyers have always carried the market as the foundation, this is why demand has not come back. It’s as if half the potential buyers in America died over a two-year period of time.

Hopes now are pinned on an upcoming revamp of the government Home Affordable Refinance Program (HARP) to include mortgages that are underwater by any amount. Details are expected later this month.

The HARP changes could help a good number of underwater borrowers refinance, bringing their monthly payments more in line with the true value of their homes which at least could discourage them from walking away from the mortgages. Borrowers whose loans have negative equity are most at-risk for strategically defaulting.

Here’s a Washington Post article outlining the eligibility requirements. Your loan has to be owned by Fannie Mae (find out if Fannie owns your mortgage) or Freddie Mac (see if Freddie owns your loan.)

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