Fed Cuts Rate and Mortgage Rates Rise!
Since the Federal Reserve cut the Fed Funds rate by .50% on January 30, mortgage rates are up at least .75% on the thirty year fixed rate mortgage. For example, our 30 year fixed rate, no closing cost loan offering bottomed out at 5.75% APR just before Bernanke and the Fed lowered the fed funds rate by .50%.
Today our no closing cost rate stands at 6.50% APR. That is a three quarter percent increase despite the fed funds rate being cut by one half of one percent. Rates have responded similarly in other fixed rate maturities as well.
Public perception is that if the Fed lowers rates, mortgage rates will follow. Sometimes that is true, other times it is not. Quite often, those of us in the mortgage origination business,
cringe when the Fed lowers their short term rate. More often than not, we need to re-educate borrowers on the workings of the debt markets and interest rates in general. These re-education efforts are necessary due to the bombardment of misinformation the public receives through advertising and/or simply ignorance.
The actual rate that gets the most publicity, when the Fed addresses monetary policy, is the Federal Funds rate. Here is how the Federal Reserve describes the Federal Funds rate on their New York Fed website. Emphasis is mine.
By trading government securities, the New York Fed affects the federal funds rate, which is the interest rate at which depository institutions lend balances to each other overnight. The Federal Open Market Committee establishes the target rate for trading in the federal funds market.
The most important thing to take away from this definition, is that it is a very short term interest rate. You cannot get more short term than overnight. This is the rate that is most commonly used by the Federal Reserve to manipulate monetary policy. The Federal Reserve does not control mortgage interest rates. They really don’t directly control the fed funds rate either, rather they set a target rate.
Mortgage rates move independently of short term rates and it is short term rates that the Fed has the most control over. Just because the Federal Reserve moves rates one way or the other, doesn’t necessarily mean mortgage rates are moving in the same direction. The rate activity, over the past three weeks, proves this point.
In this environment, if you are presented with a good and sensible rate for your situation, don’t jeopardize it by waiting for Federal Reserve actions. You can easily lose this bet two ways. You may guess wrong on the direction in which the Fed is moving short term rates and it may be erroneous to assume that long term mortgage rates will respond by moving in the same direction.
One thing is for certain. Mortgage rates and the very short term fed funds rate, never move the same amount in either direction. To clarify, if the fed cuts or raises by say 1/2%, mortgage rates do not move by the same 1/2%. If they do, it’s rare and purely coincidental. In the world of financial instruments, they are two very different animals. The erroneous assumption of lock step interest rate movement is one I have heard many, many times.
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