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I have fielded three separate questions from clients on the topic so that must mean it's time to address the issue in public.
The Fed does not control mortgage rates. The Fed controls the Fed Funds Rate.
The chart above from HSH Associates shows the path of the Fed Funds Rate (in brown) against a few mortgage products since June 2004. If there was a direct connection between FFR and mortgage rates, the chart wouldn't show the brown line playing catch-up.
The Fed Funds Rate is a short-term interest rate and its function is to make money more costly to borrow or less costly to borrow for homeowners and business owners. This works because many bank loans are based on Prime Rate (which is 3.000% higher than the FFR).
As FFR goes up, so does Prime Rate. And, as Prime Rate goes up, so does the cost of borrowing money. The reverse is true, too, if FFR drops.
Nowhere, you'll notice, do we mention mortgage rates in connection with the Fed Funds Rate. That's because mortgage rates are based on the mortgage-backed securities market -- a global exchange similar to the NYSE or NASDAQ. The Fed doesn't operate in these markets.
Mortgage-backed bonds are considered long-term products and pricing is based on long-term expectations of the U.S. economy and the U.S. dollar.
Dan Green (NMLS #227607) is an active loan officer with Waterstone Mortgage. Email Dan ator call 513-443-2020.
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