What effects mortgage interest rates, and what to watch in 2022.

Naturally, we get a lot of questions from people planning to buy a home. One question we often get asked is “what do you think is going to happen to interest rates in the next x number of months” or “why are interest rates going up and will that continue”?

One thing we want to point out, is that what these future buyers mean is “are MORTGAGE interest rates going to change”. Remember, interest rate changes by the fed can affect mortgage interest rates, but this is a complicated relationship. Fed rate increases can also affect the interest rates on your credit card payment, your interest rates when buying a car, savings and CD rates, and so on…but they don’t always immediately correlate.

First, let’s look at some basic economics.

Why does the fed lower or raise interest rates? As a general rule, if inflation is rising too fast, or inflation is too high, and if the economy appears to be overheating, the Fed can use interest rate increases to slow spending, borrowing and cause a “pause” in the economic and financial decisions of businesses, entrepreneurs and everyday consumers. Basically, raising interest rates slows consumer spending, and can cause a pause in hiring, expanding, borrowing, and spending of businesses. Fed rate hikes often follow government spending, as the increase in money supply can kick off inflation.

Conversely, if the Fed wants to increase growth, they will often lower interest rates, which will motivate businesses to invest, expand and hire, which ultimately increases consumer confidence and spending. The Fed cutting rates effectively discourages saving and encourages spending, whereas increasing rates discourages borrowing as the cost of money is more expensive.

As mentioned above, fed rate increases effect a number of things, but the effect on mortgage rates is tricky. Why? Because mortgage rates are NOT tied directly to fed rates. What are mortgage rates tied to? 10-year treasury yield, the benchmark for 30-year fixed mortgage rates. History has shown that Fed rate changes do not always equate to corresponding mortgage rate changes. Mortgage rates have at times continued a downward trend for a period after Fed rates have gone up. At other times we’ve seen Mortgage rates increase faster than the Fed rate.

What the Fed can do to more directly affect interest rates is to buy mortgage-backed securities. For more on that concept, check out this article on bankrate.com.

We’ve talked about the market forces affecting real estate in 2022 and beyond here.

So let’s look at some of the factors which affect mortgage rates, and how we can use these to make predictions;

1. Bond Prices – Traditionally, as bond prices go up, mortgage rates go down, and when bond prices trend down, mortgage rates tick up. As explained above, mortgage lenders tie interest rates to the 10-year treasury rates pretty closely.

2. Inflation – Inflation and mortgage rates track pretty closely. As inflation climbs, interest rates typically do as well.  This happens for a few reasons, one that we briefly mentioned above is, while not a direct correlation, fed rates are often increased to slow inflation, and increasing fed rates can drive up mortgage rates. Beyond that, as inflation increases, interest rates increase in order to keep up with the value of the dollar.

3. External events – we are seeing this with the Covid pandemic and the governmental responses to it. Global events not directly tied to the real estate and finance industry have a history of effecting mortgage interest rates. From world wars to Brexit, and the oil crisis of the 70’s, for example.

4. Economic recession and depression – economists and business professionals often watch metrics like GDP, unemployment rates, etc to determine the health and direction of the economy. They know that in the early stages of a recession, interest rates will generally fall, and then begin to increase as the economy becomes healthy. Of course, increasing interest rates to slow inflation can often prompt a recession, and if this approach fails to stop inflation, then the economy enters stagflation, one of the primary risks and concerns with our current economy in 2022.

5. Your personal finances – that’s right. Your personal situation can influence your interest rates. Lenders will look at your income, pay structure, employment history (for example is this a brand-new job?) DTI (debt to income ratio), credit score, savings, and retirement accounts. The overall strength of your financial situation will affect your interest rate.

Have more questions about mortgage rates? Interested in buying or selling your home? Want to speak to a mortgage or real estate professional? Contacts us HERE.