It’s a popular belief today that the U.S. Government directly controls mortgage rates by simply raising and lowering them at will.  In reality, it’s a lot more complicated. Mortgage rates actually fluctuate based on the buying and selling of mortgage-backed securities in the secondary market.  This movement of mortgage-backed securities is influenced by six factors.

1. Economic Data

Economic news and reports come on a wide variety of topics such as employment, housing, manufacturing, retail sales, and gross domestic product just to name a few.  Economic reports are released at different times and intervals – some weekly and others are monthly.  Some have a high impact while others do not carry much influence. The biggest impacting economic report is the monthly non-farm payroll report, widely known as the Jobs Report.

Jobs ReportThe Jobs Report is delivered the first Friday of each month by the Bureau of Labor and Statistics.  It is chock full of data that identifies job growth by industry and age, hourly wages, and average hourly work week.  Within the jobs report is the unemployment rate announced with the headline figures.

Jobs drive the economy.  Jobs are necessary for the velocity of money and economic stability.  As jobs improve, the economy improves and mortgage interest rates move higher.  The inverse is just as true – a lack of jobs leads to a weak economy which typically helps mortgage rates improve.

Expectations set the tone.  With any economic report, better than expected data will cause rates to move higher.  Data that comes in worse than expected will push rates lower.

2. Stock Market

Since the stock market and bond market have an inverse relationship most of the time, when investors are putting money into the stock market, money moves out of bonds.  This causes prices to drop which pushes mortgage rates higher.  The opposite is also true.

3. The Federal Reserve

The Federal Reserve System and the FOMC set the Federal Funds Rate which is the overnight rate banks charge one another to borrow money.  The Fed does not set mortgage rates.

Federal ReserveWhile the Federal Reserve does not set mortgage rates, its monetary policy has an effect on mortgage rates.  When the Fed tightens the money supply it is an indication of inflation or an anticipation of increasing inflation.  The tightening causes mortgage rates to move higher.

When the Fed injects money into the monetary system as they have done since 2009 with the Stimulus Plan and Quantitative Easing, a looser credit environment is created.   This stimulates the economy through borrowing and expansion.  Lower rates are a result of expansion.

4. Geo-Political News

The U.S. markets are considered a safe haven for investing. When world economies are growing and tensions in the Middle East are calmed money leaves the safe haven trade of the U.S. bond market and mortgage rates move higher.

When crises occur across the globe or European countries experience a weakening in their economy, as has been the case in recent years, money flows into the U.S. and specifically into the bond market.  With this influx of dollars, mortgage rates move lower.

5. World Events

Just like U.S. events, good news is bad for mortgage bonds and rates go up.  The actions of foreign central banks can impact us here at home.  If rates are better in other countries, foreign investors just might pull back from purchasing U.S. securities and invest in their home country.  Less demand will lead to lower prices which means higher mortgage rates.

Severe weather conditions such as earthquakes, tsunamis, and other catastrophic events can have an impact on financial conditions in the U.S.  Most often during these times, money will flow into the U.S. market and mortgage rates will improve.

6. Inflation

InflationInflation is the arch enemy of bonds and the biggest influencer of mortgage rates.  When inflation is present it erodes the return of the fixed-income bond.  This, in turn, makes bonds unattractive to investors and money leaves the bond market.

Evidence of inflation is seen in the economic reports Consumer Price Index, Producer Price Index, and Personal Consumption Expenditures.  Inflation causes both prices and wages to rise and the cost of borrowing increases as well.

The lack of inflation results in lower consumer and wholesale prices.  Non-existent or low inflation helps keep interest rates low.

While inflation is the arch enemy of bonds, and economic reports and other fundamental elements influence the direction of mortgage bonds, it is important to note – human reaction and emotion still come into play.

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