When
Greenspan lowers “rates,” he lowers the “Federal Funds” rate. Its
the interest rate at which large banks lend funds to one another
and is a “short-term” rate. Mortgage interest rates are long-term
— up to 30 years. Longer-term interest rates are sensitive to expectations
about inflation. When short-term rates fall — like the ones the
Federal Reserve controls — borrowing and spending usually increase,
which can actually cause inflation. Longer-term rates, like mortgage
interest rates, can rise when concerns about inflation increase.
Markets are often ahead of the Federal Reserve. Mortgage interest
rates are determined every day in active public markets. If those
markets believe the economy is slowing, interest rates may fall
as markets anticipate that the Federal Reserve might lower short-term
rates. This happened in the last half of 2000 when mortgage rates
began steadily dropping, even though the Federal Reserve left
their short-term rates unchanged. The opposite can happen as well.
Mortgage rates can rise well ahead of the Federal Reserve increasing
short-term interest rates.
It is important to note that Adjustable Rate Mortgages (ARMs)
and Fixed Rate Mortgages are affected differently by an increase
made by the FED or Federal Reserve. The FED makes adjustments
to the short term rates which in turn affects things like the
bond market, a key determining factor in the 30 year fixed rate.
The 30 year rates work in the opposite direction to the 10 year
note. If the price of the 10-yr note falls, the rates rise.
Adjustble rates are comprised of two things an Index, and a Margin.
The margin is set by the banks so when the FED adjusts the rates,
banks in turn make adjustments. The Index is a regularly published
rate that is independent of the lender and generally used as a
market indicator. Examples of and Index would be: PRIME, LOBOR,
MTA, COSI, etc.
Because Adjustable Rate Mortgages and Fixed Rate Mortgages are
affected differently it is very important to find a mortgage professional
who understands the market conditions and the relation between
the bond markets and interest rates. Your mortgage broker can
help you make the decision on when to lock a rate which can save
you thousands of dollars over the life time of your loan. He can
also help you choose the right program!
