Do you have your eye on that charming two-bedroom ranch? Maybe you’re looking at that four-bedroom colonial with the granite countertops in the kitchen.
No matter your taste, if you’re ready to buy a house, it makes a lot of sense to act as quickly as possible. Although rates aren’t quite as attractive as they’ve been at other times over the past decade, it’s important to realize that they’re still on the low end when looked at in the context of history. You might as well jump on the opportunity while you have the chance.
If you’ve paid even the slightest attention to the advertisements from any mortgage lender, you hear it said all the time that low rates don’t last forever. It may start to sound like a song on constant repeat, but it’s the truth.
We’ll go over why it’s reasonable to expect that mortgage rates will go up somewhat in the near future. Then, for those of you who like doing the math, we’ll talk about what the rate increases could mean in terms of dollars and cents.
Rates Are Low, but It Won’t Last Forever
There are a couple of big factors that have the potential to impact mortgage rates in the coming months and years, in addition to economic data itself. The U.S. central bank plays a key role.
Short-Term Interest Rates
Rates are still very low. Lower interest rates mean consumers can borrow money for things like cars and homes more easily, and all that spending has a positive impact on the economy. It’s also easier for businesses to grow and hire more people.
With that said, the Federal Reserve just raised short-term interest rates for the second time in the last several months. These short-term rates affect the cost for banks to borrow money. Although there isn’t a direct correlation, the longer-term rates given to consumers for things like mortgages and car loans tend to go up as lenders pass on the cost to consumers.
Why wouldn’t the Fed choose to keep rates low forever? As it turns out, it’s a bit of a balancing act. If it’s easy to get money, the money you have is no longer worth as much. It can also cause too much growth too fast. This leads to bubbles and wild swings in prices.
The Federal Reserve has signaled its intention to raise interest rates two more times this year. When that happens, mortgage rates could very well go up.
Short-term interest rates are just one of the ways the Fed affects mortgage rates. It also has an impact when it opens up its wallet.
The Fed and the Mortgage Market
The Federal Reserve also purchased a ton of mortgage bonds as a means of helping the economy recover from the most recent recession. We’ve talked at length about how the mortgage market works in other posts, but I’ll briefly summarize here.
When you close your loan, it’s insured by entities like Fannie Mae, Freddie Mac, the FHA or the VA. Once that happens, lenders often package loans with similar characteristics like credit score, down payment or amount of equity, and term length together with other loans in something called a mortgage-backed security (MBS). Making the mortgage bonds available to investors allows the lender to quickly gain more funds to continue to make loans rather than potentially waiting 30 years for a payoff.
The trading of MBS has a direct impact on mortgage rates. When people are in the mood to buy mortgage bonds, mortgage rates are lower because the return on the bonds can be lower. If the economy is doing well and people are in the mood for the riskier but higher yielding stock market, they would likely sell mortgage bonds. Yields, and therefore rates, would have to push higher in order to attract investors.
In order to stimulate the economy, the Fed chose to buy a ton of fixed-rate mortgage bonds in order to keep rates low and encourage people to buy. Since they’ve so far reinvested the returns into new mortgage bonds, they own about $1.77 trillion worth of MBS and are the biggest buyer in the market.
At some point, the Fed is going to sell these bonds in order to give itself a little more flexibility to respond in the event of another recession. Unless several bond buyers pick up where the Fed left off, rates and yields would go up.
Making Sense of Dollars and Cents
We can talk until we’re blue in the face about rates going up, but what does it actually equate to in terms of your pocketbook? To get an idea of the impact of higher rates, let’s take a moment and do the math.
For the purposes of comparison, we’re assuming a $200,000 loan amount on a 30-year mortgage in Michigan. Costs may vary slightly due to regulation depending on where you live. The only thing we’ve changed up in each case is the interest rate. If you’d like to put in your own numbers, check out our amortization calculator.
Depending on the loan you get, rates are currently in the low- to mid-4% range. Let’s start with a rate of 4.375%. On a $200,000 loan amount for a 30-year term, you would have a $998 monthly payment and pay $159,485.48 in interest over the life of the loan.
It’s worth noting that when you’re talking about a home loan, a small rate increase does make a difference. If that rate goes up to 4.5%, the payment increases by $15 per month. Although that may not be a whole lot, it adds up to more than $5,000 worth of extra interest over the life of the loan.
Let’s say rates increase to 5.5%. The monthly payment would be $1,135.58. You would pay $208,808.13 in interest. If rates were to push up to 6%, the mortgage payment would go up by about $60, and there would be another $22,000 increase in the amount of interest you paid.
Of course, you have to make sure you’re ready to buy. Make sure to see if you have room in your budget and get a preapproval, but if you can, it makes a lot of sense to buy now while rates are still pretty low.
If you’re ready to take the leap and get into a new home, you can get a preapproval through Rocket Mortgage today. If you’d prefer to get started over the phone, you can call (888) 980-6716.
Some of this interest rate stuff can be hard to wrap your head around. If you have questions, leave them for us in the comments, and we’ll get you the answers.