Fed Rate Increases by .75

The Fed Raises Rates .75 - June 15, 2022

The Fed has announced that they are raising the Fed funds rate by .75 as a result of this week's meeting.  This rate hike represents the biggest single increase since 1994, and comes on the heels of a hotter than expected inflation report last week.  The Fed is not only increasing their rate, but in doing so, signaling their intent to put all means necessary toward stemming inflation that caught them by surprise, with many Federal Reserve members indicating inflation would be "transitory" as recently as last quarter.  

What does this mean for consumers?

It's important for consumers to understand exactly what the Fed funds rate is.  It is the rate at which banks borrow from each other and from the Fed itself.  The Fed funds rate is also tied directly to the "Prime" rate, which means changes made by the Fed have a direct impact on debt vehicles tied to prime - credit cards, home equity lines of credit, and similar revolving credit tools.

There is often a misunderstanding in thought that the Fed rate directly influences mortgage rates, but this is fallacy.  The reason for this is that mortgage backed securities (the large pools of mortgage loans purchased by investors and traded in the markets as securities) are influenced heavily by inflation, and the Fed's actions in rate direction influence inflation up or down.  When the Fed cuts rates, this tends to speed up inflation as it lowers borrowing costs, making it easy for borrowing and spending to occur cheaply throughout the marketplace.  When the Fed cuts rates, it generally leads to lower unemployment and a more inflationary environment (which is OK when inflation gets too low, or stagflation occurs).  In short, Fed rate cuts stimulate the economy.

On the opposite end, Fed rate hikes curtail a hot economy, often leading to increased unemployment levels and in many cases, recession.  In a recessionary environment, inflation tends to fall, and in our current environment of high inflation, that's the Fed's goal.  Since the return on mortgage money is a fixed dollar amount in amortized interest payments, when the dollar loses value, mortgage rates go up.  When the dollar becomes more valuable (as inflation eases), mortgage rates tend to drop.

We see this today, with mortgage rates improving roughly .25 percent since the Fed announcement.

Borrowing when the Fed acts

When it comes to buying a home, or borrowing mortgage money, what's the right move when the Fed acts?  Well, the answer is tough because mortgage rates are driven by far more than JUST the Fed, though they have a huge influence that can't be understated.  Generally speaking, when the Fed is raising rates, it will likely trigger a period of lower mortgage rates in the not so distant future (especially if the economy sees recession).  This means it may not be ideal to may excessive closing costs on purchase mortgages (or extra 'points' as mortgage fees are typically discussed), because there may be a refinance opportunity in the future.

It's also VERY important to not fall for ignorant advertising - I believe there are far more dumb people in the world than evil people, but regardless of intent, there tends to be a lot of bad advertising when the Fed raises rates - fear-based marketing like "refi now before the Fed raises your rate!" occurs to get people to refinance, when in reality, the Fed rate increases often lead to lower rate periods where waiting would be of benefit.

In terms of Home Equity Lines of Credit, most of these products are tied to the 'prime' rate, so payments on these products can be expected to rise, so consumers should be aware and if considering these products, expect rates and payments to increase on them in the coming months.

For now, we're enjoying some much needed relief to mortgage rates, but it will be important to keep an eye on supply chain, geopolitical, and VODI-related news, as well as upcoming job and inflation reports which will signal how well the Fed's actions are reigning in inflation and getting the economy back on track in a healthy way.