Factors influencing mortgage interest rates and when they are expected to drop

Experts predict mortgage interest rates will drop in late 2023.

The economic landscape has been a mixed bag in recent weeks, with some positive and negative indicators. While the unemployment rate has shown improvement, dropping to 3.6% in June, inflation and interest rates remain high. This has created challenges for Americans looking to buy a home or refinance their mortgages.

One of the key factors influencing the ability to buy a home or refinance is mortgage rates. Many people are eagerly awaiting a decrease in rates, but the question remains: when will that happen? We spoke with several experts to get their insights on what is currently influencing mortgage rates and when we can expect them to drop.

Inflation is a major factor contributing to the high mortgage rates we are seeing today, according to all the experts we consulted. The Federal Reserve's efforts to control inflation have played a significant role in driving up rates. In fact, mortgage rates are currently at their highest level since November 2022, with the average rate on a 30-year fixed-rate mortgage at 6.96% as of mid-July 2023, as reported by Freddie Mac.

Greg Forest, a senior global real estate advisor at Sotheby's International Realty, believes that the Federal Reserve's response to inflation has had a significant impact on rates. Forest states, "The Federal Reserve has reacted swiftly to inflation concerns by implementing historic rate increases. In my opinion, too swift of an increase has caused a significant rise in rates."

Forest predicts that rates will continue to rise before they start to drop. He expects mortgage rates to maintain a slight upward trend until the end of this year or the beginning of 2024, at which point they will likely start to fall.

Aaron VanTrojen, CEO of Geneva Financial, agrees that mortgage rates are unlikely to drop for some time. He points out that long-term rates, such as mortgage rates, tend to follow short-term rates set by the Federal Reserve. As the Fed has been consistently raising rates, VanTrojen believes that mortgage rates will remain high. He states, "There is no reason today to believe that they are not going to follow through with what they have been repeatedly stating for some time."

Peter Idziak, senior associate at Polunsky Beitel Green, also highlights inflation as a driving force behind higher mortgage rates. However, he notes that investors' expectations of future rate decreases are also contributing to the current high rates. Idziak explains, "Mortgages they purchase today are likely to be paid off earlier than historical averages. To compensate investors for this prepayment risk, mortgage rates have had to move even higher."

Idziak predicts that rates will start to decrease later in 2023. He points to the Federal Reserve's indication that they expect to raise rates only two to three more times and the cooler-than-expected June CPI inflation data as factors that suggest we are nearing the end of the rate-hiking campaign.

The relationship between mortgage rates and 10-year Treasury rates is also worth considering. On average, the 30-year fixed mortgage rate is 1.7 percentage points higher than the yield on 10-year Treasury bonds. However, this spread can widen during times of economic or geopolitical uncertainty, as we are currently experiencing.

Christine Cooper, the chief U.S. economist and managing director at CoStar Group, explains that the spread has widened to over 280 in 2023. This means that mortgage rates are higher than they would be in a calmer economic environment. Cooper attributes this to factors such as lenders' perceptions of repayment risks and demand in the MBS market.

Cooper expects mortgage rates to remain high in the short term due to the Federal Reserve's likely rate hike. However, as economic growth slows and inflation subsides, she anticipates that the 10-year Treasury rates will decrease, leading to a narrowing of the spread between mortgage rates and Treasury rates. Projections suggest that the 30-year rate could fall below 6% by the end of 2023 and be between 5% and 5.5% at the end of 2024.

If you're waiting for mortgage rates to drop before making a home purchase or refinancing, there are still steps you can take to improve your financial situation. Making repairs or home improvements can increase your home's value, allowing you to fetch a higher price when you eventually sell. Additionally, considering a home equity loan or home equity line of credit can provide financing for these projects.

Improving your credit score is also a wise move before refinancing your home. A good or excellent credit score can increase your chances of loan approval and secure more favorable rates.

In conclusion, while the economic news is mixed, it's clear that inflation and the Federal Reserve's actions are major factors influencing mortgage rates. The experts we consulted believe that rates will continue to rise before eventually dropping, with predictions ranging from the end of this year to the beginning of 2024. The relationship between mortgage rates and 10-year Treasury rates is also significant, and as economic conditions stabilize, we can expect to see a narrowing of the spread between the two. In the meantime, taking proactive steps to improve your financial position can help you navigate the current market conditions.