How interest rates impact mortgage rates

For those on the hunt for a home, there is always a great deal of talk about interest rates and mortgage rates. All the numbers that are swirling around can become jumbled. To cut through the fog, let’s break down two of those figures - interest rates and mortgage rates.

●      Interest rate: Expressed as a percentage of the total amount of the loan, an interest rate is a fee you are charged by a lender for borrowing money.

●      Mortgage rate: A mortgage rate is the amount of interest paid on a home mortgage.

So, how do the two relate? When the Federal Reserve adjusts interest rates, it can have an indirect impact mortgage rates. In 2018, interest rates increased four times, ending the year at 2.5 percent after a 0.25 increase in Q4. For example, sometimes mortgage rates increase when short-term rates rise because the central bank’s action can have a ripple effect on all other interest rates. If you have a fixed-rate mortgage, the changes will not affect you, of course; however, borrowers with adjustable-rate mortgages (ARMs) and home equity lines of credit (HELOCs) will find themselves paying more interest on their mortgage loans because they are indexed to short-term rates.

On the contrary, there are times when mortgage rates have fallen after the Federal Reserve raised rates. Take 2004 for example. Beginning in June, the federal funds rate, which is the interest rate banks charge each other for overnight loans to meet reserve requirements, was raised 17 times in just two years! After that, in the summer and fall of 2004, mortgage rates fell. Why is that, you ask? At the time, rate hikes did not cause investors to worry about inflation. The decreased rates did not last long, though. After the two-year period when the rates were heightened 17 times, mortgage rates rose to levels that were higher than they were prior to when the period started.