Interest rates have settled in to a narrow range after the run-up in response to the election. Despite a lot of year-end economic reports and some major events that would normally be market-moving, mortgage rates seem to be happily steady again for the time being, albeit above where they sat for most of the year.
So where are they now?
In the chart above you can see bond yields (Red Line) trying to find a comfortable level. The ten-year bond is trading at about 2.400%, meaning the yield investors are demanding to park their money in ten-year U.S. Treasury Bonds today is 2.400%. Compare that to 1.50% to 1.60% they were demanding back in August and September, and you can see why long-term yields in general are rising.
Mortgage-backed securities (The blue line is the Fannie Mae 60-day yield, which is as good a proxy as we have available) tend to be a bit more stable, but of course generate a slightly higher yield for investors. You can see that last week investors drove the yield down on these securities, indicating they were comfortable with the current yield.
The retail price of loans did fall unsteadily this week, although not much. The green line is a backward look at the interest rate that actual borrowers locked in during the previous week., so we don’t see the drop yet. We can expect a slight notch down next week, reflecting last week’s better retail pricing.
Where to from here?
While there are a lot of economic reports due out this week, two other events will likely overshadow everything else. First, there are the upcoming holidays when traders tend to take time off from work. In the week before Christmas in particular, buying activity tends to slow down, and therefore prices of certain investments – bonds in particular – tend to go down. Since bond prices and interest rates have an inverse relationship, we can expect interest rates to rise a tad leading up to Christmas, or at best remain steady.
What will the Feds do?
The much bigger issue is that the Board of Governors of the Federal Reserve meets Tuesday and Wednesday of this week to consider monetary policy, including whether or not to raise short-term interest rates. The smart minds in the room believe they will. Even if they do exactly as virtually everyone believes they will, it would be only the second interest rate increase since rates bottomed out in 2010. That in itself is market-moving news.
This is a good time to point out that the Feds do not “set” mortgage rates, and in fact don’t even influence them all that much. Rather, they control only the cost of very short-term borrowing for their member banks. This directly influences short-term rates, like the Prime Rate, which impacts credit card interest rates and in some cases car loans.
Inflation is the key
However, the purpose of raising short-term interest rates is to cool the economy. Why would they want to do that? If the economy grows too quickly incomes will rise too rapidly, and with more money chasing the same number of goods, prices will rise, fueling inflation.
Long-term rates are highly sensitive to inflation. (You don’t want to lend your money out for 30 years at 4% if inflation is running 5%, or the money you get back is worth less than the money you lent out.) Consequently, when the Feds raise short-term rates to fight inflation, long-term rates often fall a bit.
So, there will be lots of news about this this week. Don’t Panic! Mortgage rates are likely to either stay stable or rise slightly for the remainder of the year, but could easily reverse course in the new year.