Interest Rates Are Up, So Why Are Mortgage Rates Down?

For years homeowners have been hearing they better rush to refinance because soon the Fed will raise interest rates, and mortgages will inevitably get more expensive.

In the December the Fed finally made the leap: hiking rates for the first time since the 2008 financial crisis. But in a surprise, the mortgage market seems not to have noticed. In fact, 30-year mortgage rates have fallen for four weeks in a row, according Freddie Mac's weekly survey. The average rate for a 30-year mortgage stands at 3.79%, the lowest level since October.

So what gives? The strange results are a lesson in just how fickle financial markets can be. It's important to remember that when financial commentators talk about the Fed "raising rates," they can make it seem like central bank officials simply pull a lever to hoist interest rates upwards. It's a lot more complicated than that.

What the Federal Reserve primarily manipulates is a single, key interest rate known as the federal funds rate -- essentially the rate banks pay when they make overnight loans to one another. Mortgages, by contrast, are anything but overnight loans. Prices tend to be tied to much longer-term borrowing rates, typically the 10-year Treasury bond. (Why not the 30-year? Because relatively few homeowners actually pay down the whole loan before moving or refinancing.)

Of course, financial markets are interconnected, and typically the Fed's actions with short-term rates are enough to push longer-term rates higher too. This time, however, circumstances have conspired against that outcome. First off, while the Fed made big headlines by hiking rates in December, the extent of the move was pretty small from zero to a range of 1/4 to 1/2 percent. There was good reason for that. With the economy still relatively weak, and with nearly a decade since its last rate hike, Fed officials essentially wanted to dip a toe in the water before doing anything that might seem drastic. The upshot was that the possible effect on long-term rates was never going to be large.

What's more, since then, events in the global economy have tended to push longer interest rates down, rather than up. Falling oil prices and turmoil in the Chinese stock market have discomfited many investors, sending the Dow down almost 10% in the first few weeks of 2016. Rocky markets tend to boost prices for Treasury bonds -- seen as the safest place to park money -- sending interest rates down. On Thursday the yield on the 10-year Treasury -- the one that's key for 30-year mortgages -- fell to 2.02%, down from 2.24% at the start of the January.

So if you haven't refinanced your home yet, should you put it off, hoping for still lower rates later. Probably not. Assuming the economy continues to recover, the Fed will continue to raise short-term rates, and eventually longer rates will rise too. Unless, of course, they don't. As explained above, these things don't necessarily operate in a simple cause-effect relationship.