For prospective homebuyers, the current state of mortgage rates is a significant concern. Whether you’re a first-time buyer or planning to sell your current property and move into a more suitable home, you likely have two burning questions:
- Why Are Mortgage Rates So High?
- When Will Rates Go Back Down?
To address these questions, let’s delve into the context surrounding mortgage rates:
Why Are Mortgage Rates So High?
The 30-year fixed-rate mortgage is heavily influenced by the supply and demand for mortgage-backed securities (MBS). Mortgage-backed securities are investment products similar to bonds, comprising bundles of home loans and real estate debt purchased from issuing banks. The demand for MBS plays a crucial role in determining the spread between the 10-Year Treasury Yield and the 30-year fixed mortgage rate.
Historically, the average spread between the two has been 1.72%. However, as of last Friday, the spread was 3.2%, nearly 1.5% above the norm. If the spread were at its historical average, mortgage rates would be around 5.37%.
Such a significant spread is uncommon. It typically occurs during periods of high inflation or economic volatility, as seen in the early 1980s or the Great Financial Crisis of 2008-09.
The graph below illustrates instances where the spread exceeded 300 basis points:
Fortunately, the graph also reveals that the spread has consistently declined following each peak. This suggests that there is room for improvement in mortgage rates today.
What’s causing the larger spread and the currently high mortgage rates?
The demand for MBS is heavily influenced by risks associated with investing in them. Currently, market conditions such as inflation concerns, potential recession fears, interest rate hikes by the Federal Reserve to curb inflation, negative narratives surrounding home prices, and other factors contribute to increased risk perception. Simply put, when there is less risk, demand for MBS is high, leading to lower mortgage rates. Conversely, higher risk reduces demand for MBS, resulting in higher mortgage rates. At present, low demand for MBS has contributed to high mortgage rates.
When Will Rates Go Back Down?
According to Odeta Kushi, Deputy Chief Economist at First American, it is reasonable to expect that the spread, and consequently mortgage rates, will decrease in the second half of the year if the Federal Reserve eases its monetary tightening policies and provides investors with more certainty. However, it is unlikely that the spread will return to its historical average of 170 basis points, as some risks are likely to persist.
As investor fears subside, the spread between the 10-Year Treasury Yield and mortgage rates should narrow. This indicates that mortgage rates may moderate as the year progresses. However, accurately forecasting mortgage rates remains uncertain, as multiple factors influence their fluctuations.