Most people assume that mortgage interest rates move in relation to the interest rate set by the Federal Reserve. So how can mortgage interest rates go up when the Federal Reserve rates are holding steady or going down? What is happening to mortgage interest rates now?
As it turns out, the Federal Reserve and mortgage lenders can’t control everything that is happening to mortgage interest rates. Global capital markets – the portion of the market for investment funds where equities, mortgages, and bonds are traded – also have an effect on what is happening to mortgage interest rates.
Although the Federal Reserve has cut interest rates in an effort to inject as much money as it can into the banking system, global capital markets are still nervous about the economy. As a result, mortgage interest rates continue to inch up.
The only interest rates the Federal Reserve really controls are the interest rates that U.S. banks pay to borrow money from the Fed. This interest rate is often referred to as the federal funds rate. When banks take in deposits, they are expected to keep a certain percentage of that money in reserve. When their reserves run short, they are required to get a short-term loan to make up the difference. When this happens, banks can either borrow from the Federal Reserve or they can borrow from other banks. These two choices account for what is happening to mortgage interest rates.
The Federal Reserve sets its interest rate for short-term, overnight loans to banks. Using short-term loans to cover long-term loans like 30 year mortgages, however, can be risky business. The bank has to come up with the money to pay the Fed right away, even though the homebuyer will be paying over 30 years.
That’s why banks typically borrow from each other on the capital market. On the capital market, banks, corporations, institutions, pension funds, governments, and individual investors who buy and sell money, lend money for the long term. On the capital market, a bank can get a long-term loan and pay it back in installments, with an interest rate that is usually fixed for the life of the loan. Consequently, the bank or mortgage lender has to charge their customer, or homebuyer, a higher rate of interest than they were charged on the capital market in order to make money.
Interest rates for long-term loans are usually based on the rates paid by the U.S. Treasury. U.S. Treasuries are considered the gold standard of safety, so when borrowers turn to other lenders, it is considered more risky. That risk has a price in the form of a higher interest rate. This helps to explain, in part, what is happening to mortgage interest rates. When a lender in the capital markets is nervous about the economy, they charge a higher interest rate to try to cover the possibility that they may not get paid back.
The other factor affecting what is happening to mortgage interest rates is that the rate of foreclosures is still high. Banks and mortgage lenders are still nervous that if they lend money to a homeowner, they may not get their money back. Therefore, homeowners will be paying for that nervousness in the form of higher mortgage interest rates.
What is happening to mortgage interest rates is important to homeowners and potential homebuyers because even a small change in mortgage interest rates can greatly influence the overall cost of a mortgage. Potential homebuyers want to know if they should lock in their mortgage interest rate if the rates are on their way up. Current homeowners want to know what is happening with mortgage interest rates because it may be a good time to refinance.
Mortgage interest rate forecasts are easy to find, but nobody knows for certain which direction mortgage interest rates will go in the future. Highly educated financial professionals and economists can make predictions, but the only thing that is certain is what has happened to mortgage interest rates in the past. The best advice for homeowners and potential homebuyers is to closely watch what is happening to mortgage interest rates, and try to lock your mortgage interest rate in at the lowest possible rate you can.