Here's How Much the Fed's 50-Basis-Point Rate Hike Could Cost New Mortgage Borrowers
There isn't exactly a simple answer, but it could make a new mortgage more expensive.
- The Federal Reserve just announced a 50-basis-point rate hike.
- Borrowers could see mortgage rates continue to rise throughout 2022.
- Mortgage rates have already increased a significant amount over the past year.
The Federal Reserve just announced a 50-basis-point hike in the benchmark federal funds rate, which now sits at a target range of 0.75%-1.00%.
While this may sound like an extremely low interest rate, think of the federal funds rate as the rock-bottom baseline on which many other interest rates are based. For example, a 50-basis-point (0.50%) hike in the federal funds rate means your credit card's interest rate will likely go up by a similar amount.
If you're thinking of buying a home, this may sound like concerning news. After all, mortgage rates are already up by more than 2 percentage points over the past year. However, as we'll discuss here, there's not necessarily a reason for panic -- yet.
Mortgage rates and the federal funds rate
Here's the good news. Mortgage rates are not directly tied to the federal funds rate. In other words, if your bank was offering a rate of 5% before the Fed's rate hike, that doesn't mean its rates will immediately shoot up to 5.5% after the announcement.
As mentioned before, the Fed has only raised rates by 0.25 percentage points up until now, but mortgage rates have risen by more than 2 percentage points over the past year. Clearly, the two don't move in tandem 100% of the time.
Specifically, mortgage rates tend to be a bit more forward-looking, and are driven by market dynamics (like demand and perceived lender risk) in addition to benchmark rates. Over long periods, mortgage rates and the federal funds rate tend to move in the same direction, but it is far from a one-to-one relationship.
What it could mean to you
In short, mortgage rates move based on conditions in the mortgage market, not because of the federal funds rate or any other benchmark rate. It's entirely possible mortgage rates will continue to rise in the weeks and months to come, or they could stay the same or even come down, despite what the Fed is doing.
That said, the 30-year mortgage rate hit 5.55% last week on average, after starting 2022 at just 3.29%. This means on a $300,000 fixed-rate mortgage, the principal and interest portion of the monthly payment has increased from $1,312 to $1,713 -- that's 31% more expensive.
And just for illustration, if the average 30-year mortgage rate were to continue rising by another 50 basis points in line with the Fed's rate hike, that monthly payment would increase further to $1,808. So it's fair to say rising mortgage rates can dramatically impact home affordability.
Mortgage rates can be unpredictable
The key takeaway is that even though the Federal Reserve makes clearly-defined interest rate hikes, mortgage interest rates still move in an unpredictable manner governed by economic forces. Over time, however, the federal funds rate and the average mortgage rate tend to move in the same direction, so if the Fed continues to hike rates throughout 2022 as most experts are predicting, it could certainly put upward pressure on mortgage rates.
One smart move if you're worried about Fed rate hikes making your home purchase even more expensive could be to apply for a mortgage now and lock in your rate. Most lenders will let you lock in your rate for at least a month with no charge, and you may be able to lock yours in for several months for a modest fee, which could be well worth it for the peace of mind it brings.
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