Savvy real estate investors know to watch mortgage rates the way a sailor knows to watch the sky. Changes in mortgage rates impact the market prices of homes in the same way changes in interest rates impact the market values of bonds. Fortunately, changes in interest and mortgage rates tend to be much less sudden and extreme than changes in the weather.
Mortgage Rates at Historic Lows
Mortgage rates, and interest rates in general, are still at historic lows following the real estate and economic debacle of 2008. The average rate for a 30-year fixed rate mortgage in July is 3.45%. This is low in comparison to the average rate for the 10 years before 2008 of 6.55%, and even low compared to the average since 2008 of 4.21%.
The average rate includes rates charged those with poor credit and those with outstanding credit. Of course, those with poor credit pay a higher rate. The same is true for borrowers who have a high debt-to-income ratio, and those who make a smaller down payment as part of the home purchase transaction.
If Mortgage Rates Go Up
Mortgage rates move with interest rates in the overall economy. They go up during an economic expansion. When people have jobs that they are confident they will keep, demand for mortgages goes up. Supply and demand are relatively straightforward, so interest rates tend to climb during economic expansions. This increase is also driven by the monetary policy of the Federal Reserve Board (the Fed).
A higher mortgage rate means a higher monthly house payment. This will cause some buyers to look at less expensive houses. Some sellers may need to drop their price in order to attract buyers looking for that type of home. A real estate investor planning on flipping a starter home may find the market price of their home dropping as interest rates climb.
Real Estate Market Sees Fewer Mortgage Apps
The reverse dynamic takes place when consumers are uncertain about the future, such as when the Consumer Confidence Index is weak. Fewer households apply for mortgages because they are concerned about making payments and mortgage rates fall. This is why mortgage rates are currently still historically low. The economy still has not recovered fully from the effects of the 2008 mortgage meltdown.
The lingering effects are shown by the current policy of the Federal Reserve Board. The Fed strongly influences the money supply interest rates through the discount rate. This is the rate the Fed charges banks to borrow money from it. A low discount rate increases the money supply and lowers overall interest rates. A high discount rate does precisely the opposite.
Real Estate Investors Watch the Current Forecast
The Fed is slowly increasing the discount rate from the historic lows it reached as a result of the 2008 mortgage crisis. However, these increases are being implemented very slowly, and the current rate of 1.75% is still very low. The average rate for the 10 years prior to the mortgage crisis, for example, was 4.04%. The rate since 2008 has averaged .78%.
The current CCI is giving off mixed signals, with some elements showing positive gains and others moving negatively. The month-to-month fluctuations are also small and often in opposing directions. This means the Fed is less likely to significantly increase the discount rate, but continue on a slow path toward historically normal levels. Demand for mortgages is also unlikely to show a significant increase so there will be little upward pressure from the private market.
An extended period of low mortgage rates that is slowly ending can be an excellent environment for real estate investors. Some buyers may feel that they have to purchase a home before a significant increase in rates. Rates that are low relative to historical levels mean real estate prices that are relatively higher.
However, the risk in the environment is an unexpectedly large increase in rates that pushes buyers out of the market and forces sellers to lower prices to lure them back in. Although the current outlook does not suggest this will happen, the economy has been known to surprise even seasoned observers. Even experienced sailors sometimes get caught in a storm.