Weekly Column #1: Predicting Changes to Interest Rates
Interest Rates Explained
The Home.Loans Guide to Current Real Estate Trends
Trying to predict what the real estate market is going to do is a bit like trying to nail a runny egg to a tree. Nevertheless, buyers are often asking real estate experts questions like “is it a good time to buy a house?” These market-related questions have as many answers as they have askers -- the industry as a whole is a slippery beast.
Predicting Interest Rates
Interest rates are one of the least controversial (and most talked-about) aspects of the mortgage industry. Will the Fed raise the interest rates again? That’s always the question. The Federal Open Market Committee did, in fact, vote to raise rates by 25 basis points (that’s 0.25%) in mid-June. That’s the seventh time it has done so since 2015.
Before you panic, there are two things to understand about this rate hike.
First, a hike in the federal funds rate primarily affects banks. For banks, it changes the cost of borrowing money from other banks for various investments, including new mortgage loans. Although you’ll often see your bank’s prime rate adjust when the federal funds rate changes, your bank isn’t required to change its interest rate after a federal funds rate hike. This leads us to item number two.
It’s a common misconception that mortgage interest rates are set by the Fed. Each time the Open Market Committee has a vote on raising the federal funding rate, a lot of people feel a deep shiver go through their bodies. They’re certain they missed their opportunity to buy a house.
The truth is that your bank could choose to keep mortgage interest rates exactly where they were before the Fed’s rate hike. The prime rate of your bank might be different from the bank across the street. The prime rate is simply the rate at which the bank loans to its best customers, typically corporate borrowers. Since you’re just a meager home buyer, you’ll get a prime plus mortgage, as in “your interest rate is prime plus 2.5%.”
It’s tricky to predict what your bank is going to do in terms of raising or lowering their mortgage interest rates. Most lenders will follow the herd, which is why so many banks have the same rates for the same products.
For example, if a small bank realizes they can be more competitive if they take less interest and simply write more mortgages, they might simply absorb that 25 basis point bump like the one we just saw rather than pass it along to you.
The Fed and Its Wicked Interest Rate Math
Sometimes, it seems almost like the Fed just pulls interest rate changes out of thin air, but that’s far from the truth. Instead, it examines a whole host of economic indicators. This includes inflation, projected future inflation, the unemployment rate, and the current and projected future gross domestic product.
It was no surprise that the Fed voted for an increase recently since the economy is still very strong, businesses are investing again, buyers are buying, and people are working. It’s a beautiful, perfect situation, except there are some factors that may hold the rate here for a while.
Take that projected gross domestic product figure, for example. This is an economic indicator that shows how much stuff a country makes at home and sells both domestically and internationally. If you’ve been catching any of the latest trade news, you already know that there’s a lot of tension in the global trade markets, meaning that we may well see a sharp decline in GDP in the near future.
This unpredictable change to the domestic economy will have ripples, I’m sure, but a significant change in GDP alone could be enough to cause the Fed to seriously rethink another rate hike. A dropping GDP may also come with low consumer confidence, which isn’t great for interest rates, but might be pretty good for house buyers in the short term.
The Bottom Line: Economic and Real Estate Industry Analysis
Hey, homebuyers. Maybe the economy doesn’t sound like a super awesome topic to read about -- but it’s really a vital area to school yourself in before buying or selling a home. The real estate industry is a fickle mistress, and she’s never really fully satisfied. Change is inevitable.
I used to see this problem a lot when I was a Realtor. I worked with first-time homebuyers, whose parents had last bought a house 10 or 15 years prior. Dad would always tell the newbie that they needed to make a lowball offer, but the market they were buying in was definitely a seller’s market. Translation? In a seller’s market, you pay what you pay, especially when you’re asking for closing costs to be covered by the seller.
In this instance, dad was mentally tangled in the market he bought in, but it was a market that no longer existed. It was created by the interaction of hundreds or even thousands of elements and would never come around again in just the same way.
We’re going to make sure you have the education you need to better understand things like interest rate changes and basic economic indicators, along with providing some analysis of real estate trends in this column.
You can’t even wait, can you?