What Homebuyers Should Know About Falling Rates

BY CRAIG GARCIA

President Donald Trump has advocated, and Federal Reserve board members have hinted, that the discount rate should come down in July or August. A cut has become expected due to uncertainty about the future of the economy due to slower economic growth, low inflation, and tensions surrounding a trade war with China and others. What does that mean for homebuyers?

The discount rate, which the Fed charges banks to borrow from it, directly affects the federal funds rate, which banks charge each other to borrow funds overnight. This bleeds through to the prime rate to which adjustable-rate mortgages and home equity lines of credit are often linked. The Fed raised its rate four times last year, with fed funds and prime rates moving in lockstep.

Fixed mortgage rates are an entirely different matter. Contrary to popular opinion, a Fed rate cut does not automatically translate into a drop for fixed-rate mortgages, the most desired type of home loans. Rates on 15-year and 30-year terms are not set by a governmental agency. Rather, they move with the buying and selling of mortgage-backed securities in the financial markets. These rates can change often several times a day, similar to stock prices.

Movement in the financial markets, including that for mortgage-backed securities, ends up being driven by investors’ expectations or, more precisely, changes in their expectations. When the market expects the Fed to lower rates, rates generally tend to come down along with expectations right away.

But not always. Ironically, many times a Fed rate cut can be followed by an increase in fixed mortgage rates. Why? One reason is as the Fed lowers its rate, it changes expectations about future cuts, and the market responds to those new expectations.

Short-term rate cuts can also fuel worries about long-term inflation. Investors and lenders become concerned that the rate drop will overstimulate the economy, driving up inflation. The Fed will respond by quickly ratcheting up rates. The market tries to anticipate that scenario by raising rates now.

As a lender, I am happy to allow the market to do the predicting. And it is not my position to encourage people to time mortgage rate lock-ins. Residential real estate is a home first and foremost, and a long-term investment secondarily. Homebuyers should not plan the next decade of their lives based on what the Fed does this summer.

The 30-year fixed rate has fallen to 3.82% on June 13 from a high of 4.51% at the start of the year, according to Freddie Mac. This is the lowest since September 2017 and suggests that homebuyers have a fantastic opportunity to secure a long-term, fixed rate.

Understand that when the financial markets are surprised by a stronger economy or inflation, rates will rise. And when they do, they tend to climb faster than they have fallen. Sometimes the party gets called to an abrupt end.

Craig Garcia is president of mortgage broker Capital Partners Mortgage, LLC, an affiliate of The Keyes Company, serving South Florida and the Treasure Coast.

Florida PR by BoardroomPR.com.