I may have to start a weekly misinformation heard in a radio ad segment. Actually, let’s hope not.
Today’s misinformation comes from a mortgage guy that shouts, “The fed cut rates last week for the 2nd time in 4 years, causing mortgage rates to plummet”. It’s true that the fed cut rates last week. It’s also true that the fed hasn’t cut rates in a number of years. Coincidentally, it’s also true that rates are a tad lower today (approximately an 1/8th of a point) than they were before the fed cut the funds rate 2 weeks ago. I wouldn’t call that a plummet, however. More importantly, it is not true that the fed cut directly resulted in the mortgage rate decline.
Mortgage rates are tied most directly to the bond market, and to a lesser extent the supply and demand of people wanting mortgages. The bond market is not tied very closely to the fed funds rate. I’m anything but a bond expert, so I apologize for any over simplification here, but the general health of the economy, along with all of the other economic news that is reported, is what primarily affects bond prices. Bond prices indicate a long term investment, while the current fed funds rate is a short term rate. Since bond prices are what most directly affect mortgage rates, to say that the fed rate cut is affecting mortgage rates today is very, very misleading. Take note of the graph below as an illustration of my point:
If mortgage rates were closely tied to the fed funds rate, mortgage rates should have been insanely low back in August of 2004. In fact, they were historically very low (as they still are today), but never dipped much below 6%. As the fed increased its rate over the next 2 years, 30 year fixed rates held fairly steady, waffling above and below 6%, until finally, as a result of the broader economic news, rates did inch up near 7% in 2006 and into 2007.
To be more accurate, the fed funds rate is set in reaction to what the economy at large is doing. That reaction, which is often reflected in the bond market, does at times mirror 30 year fixed mortgage rates, but at other times they diverge…often significantly.
Finally, remember to practice your safe radio listening habits. It can be very dangerous out there.
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Steve,
This is a topic that irks me. I blogged about the federal funds rate and the 30 year rate a few weeks ago. Thanks for making the same case.
I heard this ad. the other day and almost wrecked the car! I couldn’t believe it. I thought the FTC was starting to investigate these kinds of ads. Its this kind of false advertising that needs to be cleaned up in the industry.
Thanks for doing your part!
Shailesh-
I re-read your post from August as I was writing my post. Not being in the industry, I didn’t know if there are any legal issues at stake, but when I see BS, I’m going to call it out.
And you’re very welcome.