Rethinking Higher Mortgage Rates

When the Fed increased bank rates at the end of 2015 the natural assumption was that mortgage costs would also rise but so far such predictions have been …

When the Fed increased bank rates at the end of 2015 the natural assumption was that mortgage costs would also rise but so far such predictions have been a bust. According to Freddie Mac, rates for 30-year, fixed, prime mortgages went from 3.95 percent for the week of December 17th when the Fed announced its increase to 3.73 percent for the week of March 17th.

“These declines are not what the market anticipated when the Fed raised the Federal funds rate in December,” said Sean Becketti, Freddie Mac’s chief economist, in early February. “For now, though, sub-4-percent mortgage rates are providing a longer-than-expected opportunity for mortgage borrowers to refinance.”

What “the market anticipated” is often based on the false idea that mortgage rates and Fed interest policies move in tandem. As The New York Times points out, “many people think mortgage rates are tied to the Fed’s action, but there is no direct link. The Fed controls a key short-term rate, while 30-year fixed-rate mortgages are generally priced off the 10-year Treasury bond, which is influenced by a variety of factors, not just short-term rates but also the outlook for inflation and long-term economic growth here and abroad.”

Not only are fixed rates in decline but the same is also true with adjustable rates. This is especially odd because many ARMs are tied to indexes which should move up and down with Fed policies, but so far at least that hasn’t happened. Freddie Mac reports that 5/1 ARMs were priced at 3.03 percent for the week of December 17th but fell to 2.93 percent by the week of March 17th.

“If anyone needed proof that mortgage rates don’t move in lock-step with Fed funds rates, what we’re seeing now is ‘Exhibit A,’” said Rick Sharga, executive vice president at Ten-X, an online real estate marketplace. “A variety of economic trends and world events have combined to keep rates historically low, presenting an excellent opportunity for people to finance and refinance investment properties.”

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One could suggest that easing credit is responsible for lower rates but that seems unlikely. Access has been falling for several months and the Mortgage Bankers Association says that for January “credit availability decreased over the month, driven by a decline in some FHA and conventional offerings as compared to the previous month,” according to Lynn Fisher, MBA’s Vice President of Research and Economics.


With higher bank rates and less credit availability it might seem as though mortgage costs should be rising but that simply hasn’t been the case. So why have mortgage rates been heading south? Several reasons stand out.

First, US banks now have excess reserves worth $2.3 trillion. These are reserves above required set-asides. It’s hard to see how rates can rise with so much idle capital.

Second, the world is flooded with an estimated $5.5 trillion now invested worldwide with negative interest rates, according to a JPMorgan Chase chart posted originally by the Financial Times.

Third,, labor productivity was down 2.2 percent in the fourth quarter. This figure suggests that businesses are not making capital investments to improve productivity and therefore that previous gross domestic product predictions may turn out to be optimistic. With less productivity the case for higher rates becomes more difficult.

Fourth, many had thought the Fed would have additional rate increases in 2016, perhaps four or so .25 percent hikes every few months. Now – just as in 2015 – the timing of such predictions is being pushed back and there are even suggestions that there might not be any additional increases. For instance, BloombergBusiness reported in January that bond traders “are pricing in a sub-2 percent U.S. inflation rate for the next 30 years.”

If those bond traders are right then we’re in for low interest rates for a very long time.


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