Future Fed rate cuts could mean higher mortgage rates
One of the interesting things in any profession is watching how the media reports on your little corner of the world. Granted, being a reporter is a daily challenge to be informed on a variety of topics. I think there are a lot of good news people out there who do their best to accurately report the goings-on.
However, nobody can be an expert on everything and every once in a while I shake my head in amazement at what the evening news talking heads start saying about the mortgage business. Most recently there has been a lot of speculation that as the economy seems headed for a soft landing, the Fed might just cut the discount rate next year. The media seems to first point out that if that happens mortgage rates will surely fall.
I do agree that the prospect of a Fed rate cut is pretty good, perhaps by the end of the first quarter if all keeps going well. But I would also state that this does not, in any manner, guarantee that long-term mortgage rates will drop. In fact, I think they will quite possibly go up if the Fed cuts short-term rates.
When the Fed cuts the discount rate, all it is doing is making it cheaper for your local bank to borrow money (and hence loan money) on a short-term basis. This does mean credit card, car loans, personal and business loans are going to be cheaper. That will
stimulate demand for goods and services, create more jobs and that is a good thing in moderation. All this good news will be good news for a lot of companies traded in the stock market and I would predict the Dow and other indexes will rise accordingly.
What the Fed is not doing is doing a single thing about long-term rates, nor do they really have any power to do so directly. Long-term debt such as mortgage loans or corporate debt is financed by money raised in the bond markets.
Savvy investors always weigh the risk versus return when deciding where to park their cash. If happy days abound in the stock market they will go there; if things look shaky they will turn to the bond markets.
In case you didn’t notice, mortgage rates were at their lowest levels in history in 2002. The country was reeling from the uncertainty of the fallout of 9/11 and the unknown effects of wars on the world’s economy and oil supply. The stock market went down the tubes and money poured into bonds at an unprecedented rate.
Issuers of bonds didn’t have to pay much to get the money they wanted; the buyers were pounding on the door an hour before they opened. Or so it seemed. As a result long-term rates plummeted.
However, over the last few years the stock market has been fairly stable and money has returned, coming out of bonds. As a result the issuers of bonds (and remember cash raised from bonds is the mother’s milk of the mortgage industry) have to stay competitive and offer higher rates to get the cash they need to fund the demand for loans. And so mortgage rates have ticked upwards.
So if the Fed cuts the short-term rates and the economy responds as it probably will, the flow of funds to mortgage-backed securities will to an extent be diverted to stocks and long-term rates will go up.
So if you are waiting to refinance or lock because you believe the rates will drop when the Fed cuts the discount rate you may be making a costly error. Like Mom probably told you, don’t believe everything you hear on TV.
Chris Neuswanger may be reached at Macro Financial Group in Avon at 970-748-0342. He welcomes mortgage related inquiries from readers.
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