The Fed Cut Interest Rates…What does that mean for mortgage rates?

On September 18th, the Federal Reserve announced that for the first time in over four years, it was cutting interest rates. The announcement was welcome news for Americans who have been feeling the pinch of elevated costs on goods, services, and high interest rates.

But what exactly does the cut mean?

The role of the Fed

The Federal Reserve—often referred to as the Fed—controls the U.S. central banking system. Key responsibilities of the Fed include managing the country’s money supply, supervising and regulating banks, maintaining the nation’s financial stability and influencing interest rates.

While the Federal Reserve doesn’t set mortgage rates outright, its decisions have a significant influence on the cost to borrow. The Fed directly controls the federal funds rate. When there are changes to the federal funds rate, banks increase or decrease the prime rate, which in turn affects borrowing costs for credit cards, student loans, auto loans, home equity loans, and home equity lines of credit (HELOC)..

The most common type of home loan—the 30-year fixed-rate mortgage—is tied to the 10-year Treasury yield. The Fed’s decision to cut the federal funds rate affects the yield because long rates tend to follow short rates. In other words, when the federal funds rate is cut, the 10-year Treasury yield tends to fall and fixed-rate mortgages follow suit.

How the Fed’s monetary policy affects the housing market

As noted earlier, one of the key responsibilities of the Fed is to maintain the nation’s financial stability. When the Federal Reserve adjusted interest rates to stabilize the nation’s economy during the pandemic, the 30-year mortgage rate dropped to a historic low of 2.65% in January 2021. Then, from March 2022 to July of 2023, the Federal Reserve raised interest rates eleven times in an effort to calm inflation.

These changes significantly impacted the housing market. A key reason for the current housing prices is lack of supply. As noted by Fannie Mae’s 2023 National Housing Survey, the mortgage rate “lock-in effect” was the leading response to why existing homeowners stay longer in their homes than they intended to. The lock-in effect refers to the resistance of homeowners to sell their home because their existing mortgage rate is so much lower than current mortgage rates. In other words, those who bought or refinanced from 2019 to 2021 are staying put longer.

Additionally, higher interest rates make it harder for developers to build new homes. Acquisition, Development and Construction (AD&C) loans are closely tied to the federal funds rate. The recent rate cut may make it easier for homebuilders to get more projects off the ground.

Higher mortgage rates, elevated home sales prices and a persistently low inventory of homes  created a situation where homeownership was out of reach for many Americans.

In 2022, home sales dropped by nearly 18% from the previous year and according to statistical research noted by Freddie Mac, in 2023, existing home sales hit a 30-year low at just 4.1 million nationwide. For those who were able to buy a home in the last few years, many borrowed at an interest rate higher than they would have liked.

Which means the recent move by the Fed to cut interest rates by a half percent could help ease the housing affordability issues.

The Fed’s latest cut benefits buyers

Mortgage rates reached a two-decade peak in October of last year, but this fall potential buyers could start seeing more favorable conditions.

Not only does the recent federal funds rate cut influence mortgage rates, but the half-point reduction will make it cheaper to finance a car loan or carry a balance on a credit card.  These types of debts impact debt-to-income ratios (DTI) and, ultimately, a borrower’s ability to qualify for a home loan. Now might be the time for potential buyers who were sitting on the sidelines to get into the market.

Rates already started to fall in anticipation of the Fed’s September announcement, but economists expect that the Fed will continue to reduce rates (although not as drastically). As rates fall, it’s likely that more existing homes will come on the market and more builders will construct new homes. The law of supply and demand dictates that as more homes become available, housing costs should start to level out or even decrease.

During the Fed’s press conference announcing the cut, Federal Reserve Chair Jerome Powell stated “As rates come down, people will start to move more, and that’s probably beginning to happen already.”  While the rate cut won’t immediately address the housing shortage, it is a move in the right direction.

Homebuyers could benefit by talking to a Loan Officer early in the process to ensure that when their ideal home hits the market, they are ready to make a move. MiMutual Mortgage offers the strongest pre-approval out there, known as a TBD approval.

TBD approvals (a mortgage approval for a to-be-determined property) means that the underwriting is done at the front end of the loan process, not after a borrower finds a home. This ensures any red-flags during underwriting are addressed early, lets sellers know the buyer is serious and can make a viable offer, and avoids delays in closing.

What the rate cut means for existing homeowners

For those who were able to buy a home in 2022, 2023 or early 2024, now might be the right time to refinance.

Here’s why:

To save money

One of the most compelling reasons to refinance is to lower the interest rate or get better loan terms. For borrowers that obtained a home loan in the last two years, refinancing to a lower interest rate translates into lower monthly payments, breathing room in a monthly budget and saving significant money over the life of the loan.

To consolidate debt

The current housing market has given homeowners a powerful tool in equity. With persistent increases in home values, homeowners can use their equity to their advantage. For borrowers looking to pay off credit cards, medical bills, student loans, or any other debt, tapping into equity through a cash-out refinance can provide the cash needed to do so.

Given that the average credit card rate is over 20%, refinancing can allow homeowners to consolidate debt into one monthly payment at a much lower rate. And as a bonus, the interest paid on a mortgage can be tax deductible, unlike the interest paid on credit cards, auto loans or other personal debt.

To upgrade the home

Instead of moving, homeowners can refinance to get the funds needed to create a home they love. MiMutual Mortgage offers home renovation loans that allow borrowers to roll the refinance and renovation costs into one manageable monthly mortgage payment.

Refinancing into a renovation loan allows homeowners to add square footage, finish a basement or attic space, make needed repairs, remodel a kitchen or bath, upgrade appliances, and more. This further boosts the home’s value and benefits the homeowner when it comes time to sell.

Next moves

While the Fed’s latest move to cut interest rates signals their confidence that inflation is easing, home prices aren’t likely to improve significantly any time soon.

But the good news is that the reduction in interest rates makes homeownership more affordable. Potential buyers and current homeowners alike benefit from the Fed’s recent cut.

Whether you are ready to make homeownership a reality, or benefit from refinancing, a MiMutual Mortgage Loan Officer can find the home loan that makes sense for your specific financial situation.