Mortgage Interest Rate are Going Up…….Really

By: Victor Normand
Published: October 2015

Mortgage interest rates have been at historic lows since the Great Recession in 2008 and hovering around 4% all during the past year. As real estate professionals, we have been advising clients to expect the rate to increase for several years now, but they have not. As recently as last summer, rate increases seemed certain; likely in September, now early next year is the expectation.

The focus of attention is the Federal Reserve and their use of interest rates along with changes in the money supply to steady the US economy. In actuality, the Fed sets a “target” rate on the interest rate banks charge one another for overnight loans needed to adjust their reserve balances. This “target” rate setting strongly influences all other rates including mortgage interest rates.

The highest Fed Funds rate was in 1981 at 15.87% and the lowest is essentially now at .14%. The 30 year fixed mortgage interest rate in September of 1981, the peak, was 18.16%, the lowest rate was 3.35% in November of 2012.

Source: Mortgage News Daily

The further effect of the Fed Fund rate at near zero percent has been very low interest rates on bank deposits, money market funds and fixed income investments (bonds). Some economists suggest that the run up in the stock market is the result of investors and fund managers looking for higher returns and finding them only in equities. The result, which seems to be happening presently, is an overvalued stock market in need of a correction.

So, where is the best place to invest? How about residential real estate in general, a home you live in to be more specific. Financial advisors do not recommend that the average investor borrow money to buy stocks or bonds but borrowing money to invest in your home makes sense, though both approaches have the potential of leveraging cash and creating extraordinary returns. Both forms of investment have risk and as we have seen, values can decrease, sometimes significantly. It takes a great deal of investment discipline to hang on to devalued stocks but riding out the bad times in the home you live in, well……….not so much.

A recent phenomenon in the downsizing marketplace has been using most if not all of the proceeds from the sale of the big house to purchase the downsized or retirement home rather than investing any excess cash. The reasoning may be that the best way to preserve capital, which for the older buyers is their estate, is to keep it in real estate where, as an added benefit, they get to enjoy the upgrades in the new home.

As the economy improves, inflation will begin to rise at a faster rate, wages will start heading up and the Fed will definitely tighten the money supply and cause interest rates to rise. The resultant rise in mortgage interest rates will put some downward pressure on home price appreciation but the fundamental of home ownership will remain attractive. Turmoil in the financial markets does affect the economics of housing, but sleepless nights are less common in your own home.