How have fixed mortgage rates been moving recently?
They've climbed. The average 30-year, fixed-rate conforming mortgage increased from 5.91 percent for the week ending March 21 to 6.11 percent for the week ending April 25, according to HSH Associates, but it's still on the low side by historic standards. How will the rates change over the next several months?
With several factors pushing interest rates higher—and not much pulling them lower—fixed mortgage rates are likely to increase modestly in the coming months. "They are right around 6 percent now, [and] they are probably going to stay there the first half of this year," says Gus Faucher, the director of macroeconomics at Moody's Economy.com. "Then they are going to gradually move higher in the second half of this year." Is that because of what the Fed is doing?
No. This upward trend has little to do with monetary policy. The federal funds target rate—the Fed-controlled interest rate that banks charge one another for overnight loans—plays only an indirect role in setting mortgage rates. Instead, the rates are being driven higher by recent developments affecting the yield on 10-year treasury notes, which influences mortgage rates more directly. What's happening with the 10-year treasury yield?
It has been on an upswing. With fear reaching teeth-chattering levels in the days after the Bear Stearns investment bank came close to collapse in mid-March, the yield on the 10-year treasury—where investors head for safety during times of turmoil—fell to near-historic lows. But after the Fed cut interest rates and created innovative new ways to get cash to banks, the market staged a turnaround. Yields climbed nearly 17 percent, to 3.87 percent, from March 17 to April 25. So, what's driving the yield higher?
There are two key reasons behind this about-face:
Is there anything that might help moderate this increase?
There is. Not all of this increase will be passed on to consumers in the form of higher mortgage rates. Typically, rates on a 30-year fixed mortgage are about 1½ percentage points higher than the yield on the 10-year treasury. But after the housing crisis hammered their portfolios, lenders and investors have grown wary of mortgages and are demanding higher returns. As a result, the difference between the 30-year fixed-rate mortgage and the 10-year treasury yield—known as the risk premium—has ballooned about 50 percent, to 2.32 percentage points, over the past year, according to HSH Associates. But with lenders having tightened underwriting standards—making mortgages safer investments—these risk premiums could narrow, Gumbinger says. "If underlying interest rates do rise, my suspicion is that there won't necessarily be a corresponding increase in mortgage rates," he says. "They will probably be influenced to some degree, but there is an awful lot of spread which could be compressed." So while higher 10-year treasury yields will put upward pressure on fixed mortgage rates, some of that increase will be absorbed by narrowing risk premiums—helping moderate the rise.