The Federal Open Market Committee decided today to lower its target for the federal funds rate 50 basis points to 1 percent. Shouldn’t this lower mortgage interest rates? Actually, no! (Official statement by the FOMC can be read from link provided at end of this post)
Many mortgage applicants are calling their mortgage representative and expecting a lower interest rate. Others who have been waiting to refinance are puzzled as to why mortgage rates have not moved lower during the past Fed rate cuts. This is difficult to explain to consumers who have watched the Fed Funds rate reduction by the Fed with very little benefit in mortgage rates.
Is a Fed rate cut really good news for mortgage rates? The facts may be surprising. The Federal Reserve can only control the Short-Term Overnight Lending Rate, the Fed Funds Rate and the Discount Rate, which have a very close relationship to the Prime Rate, fabulous news for all of you holding lines of credit tied to prime!
This is very different from mortgage rates. A mortgage rate can be in effect for 30-years while a rate set by the Fed can change from one day to another.
The reason for this is simply a matter of cash movement. The stock market has as much of an impact, if not a greater impact, on mortgage interest rates as the Federal Reserve. Mortgage interest rates move in accordance with the trading of what is called the mortgage-backed securities. This is a secured instrument similar to that of a bond, and when people are putting money into equities (that being the stock market), the money going into stocks is typically coming out of bonds and mortgage-backed securities to fund the purchase of these stocks.
When the stock market is selling off, money is coming out of stocks and the money needs to have a place to be parked, in many cases a safe haven, to generate a secured guaranteed yield. That is when the money goes into bonds or mortgage-backed securities. When the money goes into bonds or mortgage-backed securities, rates on mortgages come down. When mortgage-backed securities are sold to generate cash flow to investment stocks, rates go up. The much more accurate and dynamic relationship is that between stocks and mortgage-backed securities, not the Federal Reserve.
In summary, the Fed lowers rates, stocks rally, mortgage-backed securities sell off and mortgage rates go up. That is the dynamic and the occurrence that we need to be very careful to watch. We are seeing this occur today as I write this piece!
Now, I have seen the exact opposite happen, on many occasions where the Fed raises interest rates. The stock market does not like high interest rates because it cuts into corporate profits. The Fed raises rates, stocks sell off and mortgage rates actually improve. Just because the Fed is expected to lower interest rates, this does not have a direct impact of any positive result on your home mortgage.
We at Sapphire Mortgage are experts at monitoring the markets; we watch the Mortgage-Backed Securities as a trader would watch the stock market.
If you or someone you know is seeking to purchase or refinance, please feel free to contact Nancy Bayron at Sapphire Mortgage 808-242-8110
to get a game plan together on your mortgage financing needs.
FOMC official statement: http://www.federalreserve.gov/newsevents/press/monetary/20081029a.htm
