When Will Mortgage Rates Go Back Down?

The million-dollar question: “When will mortgage rates go back down?”

A lot of people have answers, but none of them are necessarily right. That makes them opinions, or educated guesses at best.

Here we can discuss what might drive mortgage rates lower, and when that could happen.

The bad news is things might get worse before they get better, as the Fed recently said its fight against inflation has “some ways to go.”

This means even though hope is on the horizon, mortgage rates might climb higher before seeing much needed relief.

The Fed Is Still Fighting Inflation

Yesterday, the Federal Reserve raised its fed funds rate another 75 basis points (0.75%) to a target range of 3.75% – 4.00%.

This is basically their tool to control or fight inflation, and one they’ve utilized several times in 2022 after several years of a very accommodating rate policy.

It came as no surprise to anyone, as these moves are very telegraphed.

However, at the corresponding news conference, Fed chair Jerome Powell noted that the supply of available job openings was high, which typically fuels wage increases.

As workers are paid more, costs for consumers go up, leading to more inflation, something they are actively fighting.

In other words, the Fed may need to keep raising its own fed funds rate until conditions are “sufficiently restrictive,” Powell said.

Still, we could be close to being done with the rate increases, with only about another 1% rise left between now and early 2023.

If the data cooperates between then and now, we might be looking at another 50-basis point increase in December, followed by a pair of 25-basis point bumps in January and March of 2023.

Assuming that’s the end of it, mortgage rates could take cues sometime soon and begin to moderate.

After all, fixed-rate mortgages compete with longer-term securities like the 10-year treasury (because they’re generally held for a decade).

And they’re priced using future rate expectations and forward-looking economic data, which if positive, can allow them to drop before the Fed ends its tightening policy.

If the Fed’s Stance Softens, Mortgage Rates Can Fall Even If the Fed Funds Rate Rises

Economic pundits often think of the Fed as slow to react, and unable to look far into the future. This is why the Fed rarely surprises us.

But the prices of most things, including mortgages, have often already baked in the future, and are looking for additional cues to determine their direction.

Simply put, everyone (including bond investors) pretty much knows the Fed will keep raising its fed funds rate into early 2023.

They also expect the Fed to stop tightening around that time, which means they could technically begin to reprice on that expectation, while the Fed is still doing its thing.

However, the Fed is being a little coy and dancing between dovish and hawkish tones, which is kind of keeping everyone guessing.

And you don’t want to be wrong and lower rates, only to see another high inflation report that would call for a more aggressive Fed.

That may explain why even slivers of good news haven’t done much to turn the dial lower, while any sniff of bad news is enough to raise mortgage rates even higher.

Still, if and when the Fed does provide more clear signals of slowing inflation, interest rates should fall.

And that could happen even while they’re still raising the fed funds rate next month and beyond.

Because the mere expectation that the worst is behind us can allow mortgage rates to fall again.

How Much Will Mortgage Rates Fall? And When?

Last month, I wrote about the possibility of sub-5% mortgage rates by 2023. It’s based on a theory from mortgage rate expert Barry Habib.

In short, he believes as quickly as inflation increased, it could similarly plummet and bring interest rates down with it.

The other piece folks have been worried about is the end of Quantitative Easing (QE), which was the Fed’s massive bond and mortgage-backed securities (MBS) buying program.

But Habib also points to much lower loan origination volume lately, which buffers the Fed’s lack of buying now that QE is over.

Together, these developments could lead to much lower mortgage rates in just a few months, assuming all goes according to plan.

If it turns out inflation is relatively short-lived, and dealt with via these Fed rate increases, there’s a case to be made to see mortgage rates go back down.

The caveat is that mortgage rates won’t return to 2-3%, or even 4%, but will still see serious relief from current levels.

And that kind of makes sense when you sit back and think about it. Sure, a 3% 30-year fixed was historically too low in the grand scheme, which explains the excess housing demand of 2020-2021.

But a 30-year fixed priced at say 4.875% is reasonable today and historically, and good enough to allow transactions to take place again.

Not too low that demand will go nuts again, creating bidding wars and the like, but low enough for first-time home buyers to qualify again.

And for move-up buyers to rationalize leaving their 3-4% mortgage rate behind as they purchase a new home they need/want more.

It will happen at some point, but the question is will it be before the spring home buying season or after?

That’s hard to say, especially with how skittish mortgage lenders and bond investors are at the moment.

Most still seem reluctant to lower their rates, even if good news is in the pipeline, which means it could take longer for this development to take place.

At this point, mortgage rates still have the potential to get worse before they get better, even if we know they will eventually get better.

(photo: Dejan Krsmanovic)