The Federal Reserve at the end of 2015 increased its benchmark interest rate for the first time in almost a decade and home buyers responded with a big . . . ho-hum.
“Buyers are complacent on interest rates,” says Mike Smith, ABR, SRES, associate broker at Nothnagle, REALTORS®, in Geneseo, N.Y.
Real estate professionals say the 0.25 percent increase in the rate that banks charge each other for overnight loans is not spurring home buyers to jump into the market out of concern that mortgage rates are going to follow suit. “Buyers are keeping an eye on interest rates, but they’re not worried about them,” says Don McGlynn, associate broker at Maury Real Estate in Bethesda, Md.
The rates that matter most in real estate are those on 15- and 30-year fixed-rate mortgage loans and one-year -adjustable-rate loans. And although the direction of mortgage rates can be affected by movement in the Fed’s short-term rate, many other factors go into whether they move up or down and by how much. “There’s not a one-to-one correlation” between the different rates, says NAR Chief Economist Lawrence Yun.
Yun listed five factors in addition to the federal funds rate that impact the direction of mortgage rates:
- The rate of inflation
- The nation’s savings rate
- The flow of foreign capital into the United States
- The federal government’s debt and annual budget deficit levels
- The country’s overall economic strength
There are times when changes in the federal funds rate can be more influential on mortgage rates than at other times, says Yun, most notably during periods of prolonged economic stability. During stable periods, if the Federal Reserve sets an interest rate target and then consistently takes preannounced steps to meet that target, banks are able to anticipate rate increases. That creates a closer correlation, he says, between the federal funds rate and other interest rates.
Yun says it’s a sign of the U.S. economy’s strength that the Federal Reserve chose to start a process of gradual short-term rate increases late last year. “It was important to the Fed’s credibility that it raise rates while the country’s economy is growing, albeit slowly, and jobs are being created,” he says.
But the Fed also wanted to wean individuals and institutions off riskier investments. “The prolonged period of rates at or near zero that we’ve seen since about 2008 has driven investors to find higher yields, and the concern is that that can lead to inflating asset prices,” Yun says.
McGlynn says mortgage rates would have to go up by one or two percentage points before buyers in his market would really start to take notice. “If mortgage rates went up by two percentage points, that could affect some buyers,” he says. “That might scare them a little bit. But rates are so low now that, as long as they stay under 6 percent, most of the buyers I work with won’t be affected.”
As of mid-February, the national average commitment rate on a 30-year fixed-rate loan was just under 3.7 percent, the 15-year fixed-rate mortgage was 2.95 percent, and the one-year ARM (with a five-year fixed term) was 2.8 percent.
Yun is forecasting the rate on a 30-year fixed loan to rise to 4.3 percent by the end of the year and then to about 5 percent at the end of 2017. These are “very low by historical standards,” he says.
And if the Federal Reserve, worried about the slowdown in China and in other parts of the world, decides not to keep bumping up its short-term rate this year, as it originally planned, mortgage rates might not see even those modest increases, he says.
The bottom line: More worrying than interest rates these days is pace of home price appreciation, which is fueled largely by insufficient inventory for a growing population. Home prices are rising about 7.5 percent annually on average, while household income is only rising by about 2 percent, Yun says. That mismatch is hurting affordability now and will continue to do so until more homes are built. That remains a far bigger concern than rising interest rates.