Why mortgage rates move in relation to the Federal Reserve
We received several requests regarding our take on how and why mortgage rates move in relation to the Federal Reserve's changes to their "Discount Rates". After all, on June 15, 2017 the Feds raised rates again by 1/4 point. So here we go... but remember, everything is about perspectives.... and what you think you see or understand is not always reality...
What do you see here? Do you see a lake? Look a little closer... Reality isn't always as it appears.
Okay, first it's important to understand that MORTGAGE RATES do not follow the same path as the rates banks give to consumers for business loans, auto loans, "Home Equity Lines Of Credit" (HELOC), etc. Those rates are directly influenced by the Federal Reserve's rate changes. When the Federal Reserve raises or lower rates, what they are doing is changing the rate the Feds charge banks for short-term overnight loans. This is called the "Discount Rate". The reason they make changes is to follow their "mandate" which is to manage the country's monetary policy to "maximize employment and keep the economy stable". (Whether or not their mandate is a good thing or not is a political topic, and not for this commentary). So, when inflation looks like its looming, and the economy is heating up, the Feds will raise their Discount Rate. This in turn has banks raise the Fed Funds Rate (which is the rate banks loan each other). And this in turn raises the Wall Street Journal "PRIME RATE" (which is one of the rates banks base their charges to consumers for loans). If a consumer has to pay more interest when borrowing money they will do less borrowing, which will slow the economy down. If the economy is in trouble (needing stimulus), as was the case in 2007/2008, the Feds will lower their rates.
Mortgage Rates, on the other hand, take their direction from how the BOND MARKET responds to the economic status of the United States, and it's "feeling" about where the economy is going. If the Feds raising their interest rates is deemed an appropriate action, and will keep the economy in check, then the bond market will "like" the action, and here's the kicker, the cost of mortgage rates will go DOWN. Yes, when the Feds raise rates, mortgage rates will go down. If, however, the bond markets feel the Feds move was not going to be enough, and the future looks more challenging, then after the Feds raise rates, the cost of mortgage rates could also go up because of the concern for the future. In other words, its all speculation and "feeling" about what the future holds. Therefore, the initial response is not always the same direction as what happens over the 2 week period after a Fed rate move.
Typically when the Feds raise rates, people call us thinking mortgage rates are going up and they start to panic (and we typically say, "no, the price of rates just got better"). Then they scratch their head. Conversely, when the Feds lower rates, guess what, people call thinking they can refi into a lower rate, and we typicaly say, "well, the Feds just lowered rates which means our mortgage rates just got more expensive." And they scratch their head.
So, where will mortgage rates go from here? Yes, the Feds are expected to raise their rates 3 more times this year. That's a lot. We think it'll happen only 1, maybe 2, more times. Depending on economic reports, and the feeling about the future, that will determine if the cost of mortgage rates will be higher or lower than they are today. We can say for sure that uncertainty and worldwide fears with terrorism, slow economic activity. Slow economic activity lends itself to low mortgage interest and a Fed action to keep rates low to help stimulate the economy. That is where we have been and where we expect things to stay for the next 12 months. When the economy is really cranking, the stock market will be elated, and the cost of mortgage rates will go up (the bond market will go down). The Feds will then raise rates more aggressively to try to slow things down to keep things under control. The actions now are tempered and we should stay in a relatively calm trading range for a while. What is unknown of course is a major event, and major events send the markets on Mr. Toad's Wild Ride..... Remember, there is always calm before a major storm. And it's been calm for quite a while...
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