The Housing Chronicles Blog: Despite Fed rate cut, expect fixed-rate mortgage rates to rise

Tuesday, March 18, 2008

Despite Fed rate cut, expect fixed-rate mortgage rates to rise

Today's rate cut by the Federal Reserve is certainly good news for borrowers with adjustable rate loans tied to the prime rate (such as many home equity loans), but it won't impact fixed-rate mortgage rates because their rates and risk models are figured differently; in fact, they could go higher if the Fed can't convince lenders to release some of the money they're hoarding. From a CNNMoney.com story:

The Fed's main tool is control over the short-term fed funds rate, which determines what banks charge each other for overnight loans. Long-term mortgage rates are mostly tied to the 10-year Treasury yield, which is determined by bond traders worldwide...

When the Fed cuts short-term rates, the intent is to lower borrowing costs for corporations so that they'll invest and hire. But this economic growth can lead to inflation.

That in turn leads bond traders to demand higher rates on their long-term bonds - and that drives up mortgage rates too...

There is more of a connection between Fed rate cuts and short-term and adjustable rate mortgages (ARMs). In fact, homeowners with ARM loans could see lower rates from further interest rate cuts.

Adjustable rate mortgages are pegged to a number of different indexes, including the one-year Treasury yield and the international Libor, or London Interbank Offered Rate, which tend to move with the Fed funds rate.

With Tuesday's rate cut, the cumulative effect of the Fed cuts could entirely offset what would have been a significant rate reset for many homeowners...

Sending long-term fixed rates back down will be more complicated than fixing inflation, because the continuing housing crisis is also exacerbating the rise in long-term fixed rates.

Generally mortgage rates are about 2 percentage points higher than the yield on the 10-year Treasury, which currently stands at 3.29%.

But the housing market is in such turmoil that rates are even higher right now, with lenders concerned that borrowers will not be able to pay back loans...

So for long-term fixed mortgage rates to go down, the Fed must successfully make banks more willing to lend again.

2 comments:

Carin said...

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Patrick Duffy said...

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