Don't Wait for the Feds to Act before Refinancing Your Mortgage

By Richard Barrington
NFNS Columnist

In mid-January, comments from Federal Reserve Chairman Ben Bernanke touched off widespread speculation that the Fed would lower interest rates at the end of the month. This type of news gets the attention of mortgage holders, who might sense a chance to refinance if the Fed lowers rates. However, mortgage holders may want to look into refinancing even before the Fed acts.

There are several different types of interest rates, and the ones the Federal Reserve controls are very short-term interest rates for large institutions. In contrast, mortgage rates are long-term interest rates for private individuals. In other words, what the Fed does can have an impact on the mortgage market, but does not directly control it. In fact, since the Fed usually makes interest rate changes at regularly scheduled meetings while mortgage rates are free to float in the marketplace day by day, mortgage rates generally can react to market conditions faster than the Fed.

The Change in Mortgage Rates

Interest rates tend to run in cycles, with rising and falling phases of those cycles. This is true for both the institutional discount rate controlled by the Fed, and for mortgage rates. However, if you look at turning points over the last cycle, it is clear that mortgage rates tend to react before the Federal Reserve:

  • At the low point of the interest rate cycle, 30-year mortgage rates bottomed out at 5.21% in June of 2003, and began rising from there, while the Federal Reserve didn't start raising its rate until a year later, in June of 2004
  • At the high point of the cycle, 30-year mortgage rates peaked at 6.79% in July of 2006, and began falling after that, while the Federal Reserve didn't start lowering rates until August of 2007

This pattern has continued in 2008: while the Federal Reserve was discussing lowering rates at the end of January, mortgage rates were already moving downward as the new year began.

For mortgage holders, the most important outcome of all this is that mortgage rates have declined substantially, with 30-year mortgage rates reaching 5.87% by early January. For many homeowners, this represents a significant enough drop to make refinancing worthwhile.

Watch What the Feds are Watching

The cyclical pattern of interest rates is important, because now that mortgage rates have fallen, there is no telling how long they'll stay down. The Federal Reserve and the mortgage markets pay attention to many of the same economic indicators, but again, mortgage rates have the opportunity to move more quickly. That's why it is better to watch what the Fed is watching rather than just watching the Fed. For example, one thing that could spoil the party is inflation, since 2007 just entered the books as the worst year for inflation in seventeen years. Inflation has a tendency to drive interest rates up, so if current rates represent a refinancing opportunity for you, it may be wise to act quickly.

U.S. Federal Reserve
Associated Press

About the Author:
Richard Barrington is a freelance writer and novelist who previously spent over twenty years as an investment industry executive.

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