Fed Decision: How Will it Impact Mortgage Rates?

by Alex Stenback on August 5, 2008

Fed_funds_85_wsj_2 As you’ve no doubt heard, the Federal Open Market Committee concluded its meeting at 2PM today and announced that the Federal Funds and Discount Rate will remain at current levels.

Though this will get plenty of coverage in the mainstream press, we wanted to take a moment to explain how this action may impact mortgage rates in particular.

As you’ll recall, when the Fed announces an interest rate decision, the decision itself is less important than the accompanying policy statement, which articulates the Fed’s views on the economy, inflation and the outlook for future changes to Monetary Policy (rates, etc.)

It is that document, (which makes up for being somewhat boring and often obtuse – except to mortgage geeks like this one – by being mercifully short) which can drive mortgage rates.

You can read the whole thing in less than 30 seconds right here.

What Does this REALLY mean for mortgage rates?

Though it will take a few days for the dust to settle, the immediate result today is that rates are moving up – the stock market is up over 300 points as I type this – as money flows out bonds into a stock market that has taken the Fed statement like a shot in the arm.  Expect to see this reflected in lender rate sheets this afternoon or tomorrow morning.

From a broader point of view, within the context of today’s policy statement, the Fed seems to suggest that an economic slowdown is more cause for concern that the presence of inflation, and it does not appear that a return to rate hikes is imminent.

Silver Lining?

Though the initial reaction looks to be higher rates, If the Fed is correct – that inflationary pressures will moderate – this may be good news for mortgage rates. It is useful at this point to insert a very simple rule of thumb that describes the relationship between mortgage rates, and inflation.

Elevated inflation = Higher rates; Lack Inflation = Lower Rates

In that sense, moderating inflation will will keep the door open for low, or lower, mortgage rates through the end of 2008.

Also, don’t forget, credit standards continue to tighten, so even if prevailing rates fall, the cost of financing (larger down payments, credit based interest rate adjustors or additional fees) may continue to rise.

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