The Federal Reserve doesn’t set mortgage rates, and central bank decisions don’t directly affect mortgage rates like other products like savings accounts and CD rates. However, major players in the mortgage industry are watching the Fed closely, and the mortgage market is trying to decipher what the Fed’s actions are affecting how much you pay on your home loan.
At the end of its May meeting, the Fed announced a 0.5 percentage point increase in the federal funds rate, with further adjustments planned by the end of the year.
“Despite a slight slowdown in overall activity in the first quarter, household spending and business fixed investment remained strong. Job growth has been strong in recent months and unemployment has fallen sharply. Inflation remains high, reflecting increased energy prices related to the pandemic and higher energy prices. supply and demand imbalances related to broader price pressures,” the Federal Open Market Committee (FOMC) said in a statement released after the meeting. “With monetary policy tightening sufficiently, the Committee expects inflation to return to its 2 percent target and the labor market to remain strong.
The Fed also announced that starting in June, it would begin reducing its exposure to U.S. Treasuries, government bonds and mortgage-backed securities (MBS).
What the fed is doing
The Federal Reserve sets the cost of borrowing for short-term U.S. loans by changing its federal funds rate. The Fed has held that rate near zero for most of the coronavirus pandemic. Interest rates determine the interest banks pay each other for borrowing money from the Fed’s overnight reserves. Mortgage loans, on the other hand, reflect the interest rate on 10-year government bonds.
Changes in the federal funds rate may or may not change the rate on 10-year government bonds issued by the government.
The Fed also influences mortgage rates through monetary policy, such as when it buys and sells debt securities in the market. The U.S. Treasury market was devastated when the pandemic began, and borrowing costs were higher than the Fed wanted. In response, the Fed announced that it would buy billions of dollars in U.S. Treasuries and MBS. The move is aimed at supporting the flow of credit, which has helped push mortgage rates to historic lows.
Factors Affecting Mortgage Rates
Fixed-rate mortgages are tied to the 10-year Treasury rate. When that rate rises, popular 30-year fixed-rate mortgages tend to do the same, and vice versa.
Fixed-rate mortgage rates are also affected by other factors, such as supply and demand. When mortgage lenders have too much business, they raise interest rates to reduce demand. When business is weak, they tend to lower prices to attract more customers.
Price inflation is also putting pressure on interest rates. When inflation is low, interest rates tend to fall. When inflation rises, so do fixed-rate mortgage rates.
The secondary market, where investors buy mortgage-backed securities, also played a role. Most lenders bundle the mortgages they write and sell to investors on the secondary market. Mortgage rates tend to be slightly lower when investor demand is high. When investors are not buying, interest rates may rise to attract buyers.
But the Fed’s actions have indirectly affected the rates consumers pay for their fixed-rate home loans when they refinance or buy a new mortgage.
What the Fed’s rate decision means for mortgages
The Fed sets the federal funds rate. This is the rate that applies to the currency that banks and other custodians lend to each other overnight.
The federal funds rate affects short-term loans, such as credit card debt and adjustable-rate mortgages, which, unlike traditional fixed-rate mortgages, have interest rates that rise and fall each month as the market moves. Fixed-rate mortgage rates are generally not directly affected by changes in the federal funds rate.
Things to Consider When Buying a Mortgage Loan
When you buy a mortgage, compare the interest rate and the APR, which represents the total cost of the mortgage. Some lenders may advertise low rates but make up for them with high fees reflected in the APR.
To start your search, compare quotes online, read lender reviews, and go directly to the lender’s website.
If you have a relationship with a lender, bank, or credit union, find out what interest rates or customer discounts you may be entitled to. Often, lenders work with existing customers to get them a better deal than anywhere else.
Mortgage rates are on the rise, so keep an eye on the Fed and the economy, and shop around for rates that fit your budget and goals. Mortgage rates in the market may only go higher if the Fed hikes rates.
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