How the Federal Reserve’s interest rate cut could affect mortgage rates

On Wednesday, the Federal Reserve announced its third interest rate cut in 2024. When the Federal Reserve decided to cut interest rates this fall due to colder inflation, many prospective home buyers thought mortgage rates would drop immediately.

But mortgage rates, driven by investor expectations and the bond market, are always volatile. The Federal Reserve does not directly set mortgage lending rates, although its monetary policy decisions help guide banks and lenders across the country.

of the central bank Summary of Economic Projectionswhich outlines the outlook for interest rates in the coming months, indicates that the Federal Reserve still plans to cut rates next year. However, given stubborn inflation readings and the expectation that price pressures will remain elevated, there are likely to be only two 0.25% rate cuts in 2025.

In his comments after Wednesday’s meeting, Federal Reserve Chair Jerome Powell said, “We still see ourselves on track to cut, but it will depend on the data.”

Unfortunately for potential homebuyers, that forecast is likely to keep upward pressure on bond yields and mortgage rates in the near term, he said. Nicole Ruethsenior vice president of the Rueth team powered by Movement Mortgage.

Here’s what you need to know about how the government’s interest rate policy affects mortgage rates.

What does the Federal Reserve do?

The Federal Reserve was created by Federal Reserve Act of 1913 establish and supervise US monetary policy to stabilize the economy. It is made up of 12 regional banks and 24 branches and is governed by a board of governors who are voting members of the Federal Open Market Committee. The FOMC sets the benchmark interest rate at which banks borrow and lend their money.

In an inflationary environment, the Federal Reserve uses interest rate increases to slow economic growth and make borrowing money more cost-prohibitive. Banks typically pass rate increases on to consumers in the form of higher interest rates on longer-term loans, including mortgage loans. When the economy suffers a crisis or slowdown, the Federal Reserve lowers interest rates to stimulate consumer spending and boost growth.

Read more: How employment data could affect mortgage rates in 2024

How does the Federal Reserve affect mortgage interest rates?

The Federal Reserve does not directly set mortgage rates, but it influences them by making changes to the federal funds rate, the interest rate that banks charge each other for short-term loans. The Federal Reserve’s decisions alter the price of credit, which has a ripple effect on mortgage rates and the housing market in general in the long term.

“When the Federal Reserve raises interest rates to slow the economy, rate-sensitive sectors like technology, financials and housing often feel the impact first,” he said. Alex Tomassenior research analyst at John Burns Research and Consulting.

It is important to monitor the actions of the Federal Reserve. Your decisions affect your money in multiple ways, including the APR on your credit cards, the performance of your savings accounts, and even your stock portfolio.

What are the prospects for Fed rate cuts and mortgage rates?

If the Federal Reserve implements additional rate cuts in 2025, mortgage rates should gradually decline. However, the timing of those cuts, as well as the economic data we get between each policy meeting, will determine how quickly (and to what extent) mortgage rates can fall.

The next administration’s economic policies are likely to prompt the Federal Reserve to stop cutting interest rates. President-elect Donald Trump’s proposals for tax cuts and tariffs could stimulate demand, increase deficits and push back inflation, giving the Federal Reserve an incentive to keep borrowing rates high longer.

Powell has said it is too early to say how Trump’s economic agenda and a Republican-led Congress could alter the central bank’s approach to interest rate adjustments, pointing only to the need to proceed cautiously. But at its first meeting of 2025, on Jan. 28-29, experts say, the central bank is likely to forego a rate cut, delaying further policy changes until at least March.

Although there are still many things uncertain, it will be difficult for 30-year fixed mortgage rates to fall below 6% without weaker economic data and continued cuts from the Federal Reserve.

What factors affect mortgage rates?

Mortgage rates vary for many of the same reasons that home prices do: supply, demand, inflation and even the employment rate. Additionally, the individual mortgage rate you qualify for is determined by personal factors, such as your credit score and loan amount.

Economic factors that impact mortgage rates

• Federal Reserve Policy Changes: When the Federal Reserve adjusts the federal funds rate, this extends to many aspects of the economy, including mortgage rates. The federal funds rate affects how much it costs banks to borrow money, which in turn affects what banks charge consumers to make a profit.

• Inflation: Generally, when inflation is high, mortgage rates tend to be high. Because inflation erodes purchasing power, lenders set higher interest rates on loans to offset that loss and ensure a profit.

• Supply and demand: When demand for mortgages is high, lenders tend to raise interest rates. The reason is that lenders have a limited amount of capital to lend in the form of mortgage loans. Conversely, when demand for mortgages is low, lenders cut interest rates to attract borrowers.

• The bond market: Mortgage lenders tie fixed interest rates, such as fixed-rate mortgages, to bond rates. Mortgage bonds, also called mortgage-backed securities, are packages of mortgages sold to investors and are closely tied to the 10-year Treasury. When bond interest rates are high, the bond has less value in the market where investors buy and sell securities, causing mortgage interest rates to rise.

• Other economic indicators: Employment patterns and other aspects of the economy that affect investor confidence and consumer spending and borrowing also influence mortgage rates. For example, a strong jobs report and a robust economy could indicate increased demand for housing, which can put upward pressure on mortgage rates. When the economy slows and unemployment is high, mortgage rates tend to be lower.

Personal Factors That Affect Mortgage Rates

Specific factors that determine your particular mortgage interest rate include:

Is now a good time to look for a mortgage?

While timing is everything in the mortgage market, you can’t control what the Federal Reserve does.

You can get the best rates and terms available by making sure your financial profile is healthy while comparing terms and rates from multiple lenders.

Regardless of the economy, the most important thing when looking for a mortgage is to make sure you can comfortably afford your monthly payments.

“Buying a home is the most important financial decision a person will make,” Kushi said. If you’ve found a home that fits your lifestyle needs and budget, buying a home in the current housing market could be financially prudent, Kushi said.

If it is overpriced, it is better to wait. “Staying on the sidelines can allow a potential buyer to continue paying off their debt, strengthening their credit and saving for a down payment and closing costs,” he said.

The final result

When the Federal Reserve adjusts the benchmark interest rate, it indirectly affects mortgage rates. The Federal Reserve’s rate cuts will help improve home loan rates, although they won’t be dramatic or immediate. Mortgage rates will also respond to inflation, investor expectations and the broader economic outlook. Experts predict that mortgage rates should slowly decline over the next year.

If you’re looking for a mortgage, compare the rates and terms offered by banks and lenders. The more lenders you interview, the better your chances of getting a lower mortgage rate.

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