Rates Dropped Before the Fed EXPLAINED

If you’re thinking about buying a home, you’ve probably heard the Federal Reserve (“the Fed”) recently cut interest rates by 0.50%. You might expect this means lower mortgage rates, right? Surprisingly, mortgage rates didn’t drop. In fact, they went up a little! Wait! What?

Let’s break down why this happened.

What Does the Fed Do? The Fed is like the country’s big bank. It helps keep the economy running smoothly. One way it does this is by changing something called the “Fed Rate” which is the interest rate banks use when they lend money to each other overnight.

Why Does the Fed Change the Fed Rate? The Fed changes this rate to help control things like inflation (how much prices go up) and unemployment (how many people have jobs). If the economy is slowing down, the Fed might lower rates to make borrowing cheaper, hoping companies and consumers will spend more money. If the economy is growing too fast and prices are rising quickly, the Fed might raise rates to slow things down.

The Big Rate Cut. On September 18th, the Fed cut the Fed Rate by 0.50%. That’s half a percent, and historically, is a big drop! It was the first rate cut in four years and the biggest cut since 2008. Many people thought this would make loans cheaper, including mortgages.

But Here’s the Catch Everyone was expecting this rate cut. People who watch the economy closely, like investors and bankers, already guessed the Fed would cut rates. They use tools like “Fed Futures” to predict what the Fed will do.

Why Didn’t Mortgage Rates Drop?

1. Mortgage Rates and the Fed Rate Aren’t the Same – The Fed Rate affects short-term interest rates and the Prime Rate. These are loans that get paid back quickly (HELOCs, credit cards or car loans) while a mortgage is usually a 15- or 30-year loan. Mortgage rates are aligned to long-term interest rates, like the 10-year Treasury bond, not the Fed Rate.

2. The Market Already Knew – Since everyone expected the Fed to cut rates, investors already made their moves before the announcement. It’s like knowing concert tickets are about to go up in price before it happens. You’ve already locked in your price. Since the rate cut wasn’t a surprise, it didn’t cause mortgage rates to drop.

3. Other Factors Affect Mortgage Rates –

• Inflation Expectations: If investors believe prices will continue to drop in the future, they buy more bonds today locking higher rate/returns, which in turn drops interest rates lower on inflation data, not the Fed moves.
• Economic News: Good news about the economy can make interest rates go up because investors feel confident and move their money around. Which happened this week with stronger than expected housing starts, housing permits, retail sales, and weaker than expected initial jobless claims… all pointing to a stronger economy.
• Supply and Demand for Bonds: When lots of people buy Treasury bonds as happened over the last two months with the expectation of a Fed rate cut, the interest rates on those bonds go down. Note that mortgage rates were 7% in July and as low as 6.15% today. Alternatively, If fewer investors buy bonds, their rates go up.

So, Why Did Mortgage Rates Go Up?

1. Optimism About the Economy – Recent reports have investors seeing the economy doing quite well. And if investors feel safe about the economy, they move money away from bonds (which are safer) to stocks (which can earn more money but are riskier). This can cause bond interest rates to rise while the stock market goes up, which we saw this week… Dow and S&P hit record highs yet again this week immediately following the rate cut announcement.

2. Future Rate Expectations – Investors are having to adjust their expectations as they want another 75bps while the Fed noted in their Dot Plot, another 50bps is forecasted.

For Mortgage Rates to Go Lower, We Need to See:

1. Mortgage risk spreads getting better.

2. Economic and labor data getting softer.

3. The Fed getting more dovish with their statements, showing a willingness to do more to help the economy stay out of recession.

What Does This Mean for Home Buyers?

Even if mortgage rates went up a little, they’re still at 17-month lows! The bottom line..the drop in rates we’ve been waiting for is already here! Median home price buyers ($590,000) with average 15% down can save $281/month or nudge their purchasing power up to a $636,000 home from July to now.

Mortgage rates are more connected to long-term economic expectations than to the Fed Rate directly. We are expecting 2 more rate cuts this year. The Fed forecasted 25bps at each; while investors are holding out for 25bps in November and 50bps in December. This could mean more volatility. As a home buyer, stay informed and work with a professional who can help you navigate these changes. Remember, buying a home is about finding the right place for you and your family, and rates are just one piece of the puzzle.

Have questions or need a solid home buying strategy? Feel free to reach out. We’re here to help you make sense of the home-buying process, and ultimately build wealth through real estate.