September 23rd, 2024 2:04 PM by Ken Morley
On September 18, 2024, the Federal Reserve lowered its rate by a significant 0.50%. Normally, a rate cut of this magnitude would be expected to lead to lower borrowing costs across the board, including mortgage rates. However, in this case, mortgage rates have actually moved slightly higher. So, what’s behind this seemingly counterintuitive trend?
One explanation could be investor concerns that the Fed’s aggressive rate cut might stimulate the economy too much, leading to higher inflation. Typically, lower rates encourage borrowing and spending, which can boost economic growth. However, if this growth outpaces productivity, inflation may rise, eroding purchasing power. When inflation fears increase, bond investors demand higher returns to offset the risk of future inflation, which can push mortgage rates up.
Another factor is uncertainty about future Fed actions. While the recent 0.50% reduction was larger than expected, some investors now fear that the Fed may have less room to cut rates in the future if inflation rises. If the central bank finds itself needing to fight inflation, it could be forced to slow or halt future rate cuts, or even raise rates again. This uncertainty contributes to upward pressure on longer-term interest rates like those on mortgages.
There’s also speculation that the Fed’s decision to make such a large cut could signal deeper concerns about the economy. Some believe that the Federal Reserve may be responding to signs of a slowing economy that aren’t yet evident in the data, such as weakening consumer spending or a potential slowdown in key industries. If that’s the case, the Fed’s move could be an attempt to provide a cushion against an impending economic downturn.
Meanwhile, the bond market has reacted conservatively. Bond yields, which influence mortgage rates, haven’t dropped as much as expected following the Fed’s decision. This is another indication that investors are hedging against future risks, particularly inflation. Mortgage lenders tend to follow the bond market closely, so when bond yields rise or hold steady, mortgage rates typically follow suit.
While the initial reaction to the Fed’s rate cut has been a slight rise in mortgage rates, the coming months will offer more clarity. Economic data on inflation, employment, and consumer spending will play a critical role in shaping the direction of both Fed policy and the bond market. As new information becomes available, mortgage rates may adjust accordingly, either moving higher or finally dipping lower in line with the Fed’s rate cut.