If you’re entering the market for a new mortgage or if you have an adjustable-rate mortgage, you may be worried that the Federal Reserve’s efforts to reduce inflation will increase your housing costs.
Economists think there is a link between the Fed’s moves and mortgage rates, but it’s wrong to focus on the Fed’s hikes in short-term rates. Indeed, the average interest rate on a 30-year fixed mortgage was lower on Wednesday than it was a week ago, even though the Fed is poised to raise short-term rates for the fourth time in more than four months.
The Fed’s Open Market Committee did just that on Wednesday, raising its target for the federal funds rate — the amount banks charge each other for overnight loans — to 2.25%. -2.5%, up from 1.5% -1.75%. Its target is 0% -. 25% until March.
That’s a significant jump, but analysts don’t expect mortgage rates to respond much, if at all. That’s because the Fed’s rate move has only an indirect impact on mortgages and other long-term loans. They are just one of many forces involved in mortgage rates.
The role of the Fed
The increase in the federal funds rate tends to spread across credit markets, including on long-term loans like mortgages. If you look at the yields for 10-year Treasury notes – which tend to move in the same direction as mortgage rates – you’ll see it slowly rise as inflation takes hold in late 2021 and early 2022, after That spiked when the Fed started raising the federal funds rate in March.
However, yields on 10-year bonds, like the average rate for 30-year mortgages, peaked in mid-June and have fallen again, despite the Fed’s plan to raise the federal funds rate. state a few more times this year. That disconnect points to another force at play: the Fed’s handling of mortgage-related assets on its balance sheet.
The Fed continued to buy bonds during the 2007-09 recession and again during the pandemic, recalling mortgage-backed securities and Treasuries. Paul Single, managing director and senior economist at City National Rochdale, said growing demand for these securities has boosted their prices, leading to lower interest rates. Those moves, combined with low inflation and other factors, have helped push mortgage rates below 3%.
Now the Fed is going in the opposite direction. It stopped adding to its balance sheet in March and began shrinking its holdings through attrition: As the bonds it owns mature or are redeemed by issuers, the Fed will buy fewer new bonds to replace them. By September, it plans to reduce its monthly holdings of $35 billion in mortgage-backed securities and $60 billion in Treasuries.
In other words, Single said, the Fed has gone from buying $120 billion in securities a month to allowing $95 billion a month to roll its books. That’s more than $2.5 trillion a year in bonds that “someone else is going to have to buy,” Single said.
Robert Heck, vice president of mortgages at online mortgage broker Morty, said the Fed is “by far the largest buyer of mortgage-backed securities over the past 15 years.” Heck said that a decision to pull out of that market would significantly increase the supply of those securities, causing prices to fall and interest rates to rise.
Still, the Fed has been clear about its plans, and stock prices now reflect the expected effects on supply and demand, Heck said. Still, he said, any change in the way Fed leaders talk about their plans for mortgage-backed securities could cause interest rates to change even more.
And if the Fed starts aggressively selling its mortgage-backed securities, rather than just letting its portfolio shrink naturally, “it could have a sizable negative impact on interest rates.” ,” Heck said — meaning mortgage rates will be pushed up.
What about inflation?
Then there is the X-factor of inflation, and specifically the level of inflation that investors and lenders expect in the future.
The Fed’s latest hike has pushed the federal funds rate into what economists consider neutral territory, neither stimulating the economy nor slowing it, Single said. But the next couple of hikes planned by the Fed will push rates “into the confines,” Single said, and “all of that will have an impact on the economy as a whole.”
The Fed is trying to break the economy’s inflationary frenzy without pushing the country into recession, but the usual indicators of economic health are confusingly mixed. Gross domestic product is shrinking and consumer confidence has softened, but unemployment remains low, corporate profits have been largely stable, and consumer spending continues to grow, albeit slowly.
If the Fed manages to get rid of inflation, that should bring down mortgage rates, Heck said. In fact, he added, investors are showing signs that they believe inflation may have peaked.
But even if we do turn to inflation, don’t expect interest rates to drop immediately. “It took a long time for the market to fully tolerate such a big move,” Heck said.
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https://www.latimes.com/homeless-housing/story/2022-07-27/what-does-the-feds-interest-hike-mean-for-socal-home-buyers-mortgages Worried about mortgage interest rates? Here’s what the Fed’s rate hikes mean