How the Fed Effects Mortgage Rates

What Fed Moves Mean for Mortgage Rates

A look at where fixed and adjustable rates are headed in the coming months

By Luke Mullins

Posted April 30, 2008 in U.S News

 

Faced with a weak dollar and rising inflation, the Federal Reserve seems done with its aggressive rate-cutting campaign. Here’s how this shift in monetary policy may affect mortgage rates this year:

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How have fixed mortgage rates been moving recently?
They’ve climbed. The average 30-year, fixed-rate conforming mortgage increased from 5.91 percent for the week ending March 21 to 6.11 percent for the week ending April 25, according to HSH Associates, but it’s still on the low side by historic standards.

How will the rates change over the next several months?
With several factors pushing interest rates higher—and not much pulling them lower—fixed mortgage rates are likely to increase modestly in the coming months. “They are right around 6 percent now, [and] they are probably going to stay there the first half of this year,” says Gus Faucher, the director of macroeconomics at Moody’s Economy.com. “Then they are going to gradually move higher in the second half of this year.”

Is that because of what the Fed is doing?
No. This upward trend has little to do with monetary policy. The federal funds target rate—the Fed-controlled interest rate that banks charge one another for overnight loans—plays only an indirect role in setting mortgage rates. Instead, the rates are being driven higher by recent developments affecting the yield on 10-year treasury notes, which influences mortgage rates more directly.

What’s happening with the 10-year treasury yield?
It has been on an upswing. With fear reaching teeth-chattering levels in the days after the Bear Stearns investment bank came close to collapse in mid-March, the yield on the 10-year treasury—where investors head for safety during times of turmoil—fell to near-historic lows. But after the Fed cut interest rates and created innovative new ways to get cash to banks, the market staged a turnaround. Yields climbed nearly 17 percent, to 3.87 percent, from March 17 to April 25.

So, what’s driving the yield higher?
There are two key reasons behind this about-face:

Risk looks better. Some market participants think they see an end to the credit crisis. “The worst is behind us,” Lehman Brothers CEO Richard Fuld recently told shareholders, according to Bloomberg. With credit markets on the mend, those safe but low-yielding treasuries suddenly don’t look so appealing. Investors are “pulling money out of the safest places in order to put them back to work in perhaps somewhat more risky assets,” says Keith Gumbinger, vice president of HSH Associates. Less demand for treasuries means lower prices and higher yields.  

Angst about inflation. Rising concerns over inflation are also pushing 10-year treasury yields higher. For example, in early April, the government reported that the cost of imported goods jumped nearly 15 percent in March from the same month last year. “The data only goes back to 1983, [but] we’ve never see inflation this high,” says T. J. Marta, a fixed-income strategist at RBC Capital Markets. With inflation worries increasing, bond investors are demanding a higher return on their money at risk. “You see the yields start to rise fairly sharply because now people are focused on inflation,” Marta says.

 

But what does all this mean? Well, inflation effects mortgage rates and mortgage rates can effect whether or not you get your home loan. For more information about lenders, real estate appraisals and more contact us at www.iappraiseforyou.com

 

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