Obtaining a home loan can be a daunting experience with piles of documents, unfamiliar terminology, and that uncomfortable feeling of not knowing what to expect next. On top of all that, it can feel as if there are secret formulas the financial wizards use to determine mortgage rates. It sure would help if you had some insight into the factors that affect mortgage rates.
What Determines the Current Market Rate for Mortgages
Multiple economic conditions affect the market rate for mortgages, and the rate is constantly changing. Because of the frequent fluctuations, people often lock in an interest rate when they are shopping for a home. These are some of the factors that affect mortgage rates:
- The Federal Reserve. The Federal Reserve Bank (Fed) writes monetary policies that control the economy. The Federal Reserve determines the Federal Funds rate, which is how much banks have to pay to borrow the money they use to lend out to consumers. Banks and mortgage companies have to set their mortgage rates higher than the Federal Funds rate so they can pay for the money they borrow to fund your mortgage. So, although the Fed does not directly set the mortgage rates, their actions have a significant impact on the rates.
- Economic Growth. You can tell how well the economy is doing by looking at the employment rate, the gross domestic product (GDP), and other economic growth factors. When the economy is strong and growing, people are making more money and spending more money. Because of the law of supply and demand, when more people are trying to buy houses, the mortgage rates will go up, because of the limited supply of money lenders have. Mortgage rates go down when fewer people are lining up to buy houses.
- The Housing Market. Another example of how the law of supply and demand impacts mortgage rates is the factor of the housing market. In a “buyer’s market,” there are more houses available for sale than there are people to purchase them, so the prices will come down and so will the mortgage rates. Fewer home buyers mean the lenders will have to entice people to buy with lower interest rates. And when fewer people are taking out mortgages, there is more money in the system for lenders to use.
- Inflation. Inflation can be a double whammy for lenders. Not only do they have to pay more to borrow the money to fund their mortgages, but inflation decreases the purchasing power of their profits. For example, if they hold a mortgage with a 7 percent interest rate, but inflation is going up at 3 percent a year, the value of the money they receive in mortgage payments is only 4 percent. As a result, when the economy is trending toward an inflationary cycle, mortgage rates will climb higher in anticipation of the devaluation of the return on the lender’s investment.
- Additional Factors. When gold, oil, and the stock market go up, so do mortgage rates. When the yield on ten-year Treasuries goes down, so do mortgage rates. For even more insight into mortgage rates, you can check the Consumer Confidence Index and CNNMoney’s Fear & Greed Index.