Why are mortgage rates dropping so fast? | How will a recession affect real estate?

August 5, 2022

Why are mortgage rates dropping so fast? | How will a recession affect real estate?

Surprise! The mortgage rates are going down, and not just incrementally, but a LOT.

You might be wondering why this is happening. You may be asking, “I thought we were in a recession? What about the economy? What about the housing crash?” 

There is no housing crash. Pay attention to the data.

But let’s take a look at why mortgage rates are falling despite what everyone expected after the Fed raised the rate to 0.75.

According to Fortune, “The Federal Reserve has a simple inflation-fighting playbook. It goes like this: Keep applying upward pressure on interest rates until business and consumer spending across the economy weakens and inflation recedes.”

We know this because it’s a strategy that Paul Volcker, then Head of the US Federal Reserve, implemented to stop inflation during the 80s. This is the playbook that the Fed used again this time around. They raised the rates by 0.75, and everyone expected mortgage rates to follow suit.

But that isn’t what happened. “Over the past week, mortgage rates have declined fast. As of Tuesday, the average 30-year fixed mortgage rate sits at 5.05%, down from June, when mortgage rates peaked at 6.28%,” says Fortune.

Will this continue? A lot of people are saying it won’t, and to wait until we hit a recession (if we aren’t in one already). So, what’s going on?

Treasury bonds and Mortgage rates

All this talk of a coming recession had investors wary of putting money in the stock market, which had been turbulent lately, and they decided to go for the safer investment: Treasury bonds.

As more money flows into the US Treasury from these investors, the result is a lowering of mortgage rates, which, according to Investopedia, is tied closely to the 10-Year Treasury.

This is a snippet from Fortune’s article, "The housing market correction takes an unexpected turn”:

“The bond market is pricing in a high probability of a recession next year, and that the downturn will prompt the Fed to reverse course and cut [Federal Funds] rates,” Mark Zandi, chief economist at Moody’s Analytics, tells Fortune.

“… Where will mortgage rates head from here?

“Researchers at Bank of America believe there's a chance that the 10-year Treasury yield could slip from 2.7 to 2.0% over the coming 12 months. That could make mortgage rates fall to between 4% and 4.5%. (The trajectory of mortgage rates correlates closely with the trajectory of the 10-year Treasury yield.)”

That is plausible. That’s why whenever we head into a recession, when investors start to buy Treasury bonds in bulk, it makes the rates go down—specifically the mortgage rates. That’s what we’re seeing right now.

It’s almost like a conundrum. If mortgage rates continue to fall, it will encourage more people to buy homes and increase demand (and prices), and the Fed’s playbook to decrease demand to kill inflation by raising rates won’t work. They will probably step in to stop that.

Fortune quotes what Neel Kashkari, President of the Federal Reserve Bank of Minneapolis, told CBS, “Whether we are technically in a recession or not doesn’t change my analysis. I’m focused on the inflation data...And so far, inflation continues to surprise us to the upside… We are committed to bringing inflation down, and we're going to do what we need to do.”

What’s next?

So, a quick review of what a recession is. According to Investopedia, “A recession is a significant, widespread, and prolonged downturn in economic activity. Because recessions often last six months or more, one popular rule of thumb is that two consecutive quarters of decline in a country's Gross Domestic Product (GDP) constitute a recession.”

However, GDP isn’t the only thing to factor in. The unemployment rate also plays a role in a recession, and Investopedia says, “Unemployment often remains high well into an economic recovery, so the early stages of a rebound can feel like a continuing recession for many.” This isn’t something that we are seeing right now.

Really, we are in a place that we haven’t been in before, and we don’t know what’s going to happen. But if we pay attention to the data, we can see that if mortgage rates continue to fall because the economic downturn worsens, and investors continue to invest more in Treasury bonds drive mortgage rates down further, it allows the housing market to become more affordable again.

That is what CNBC noticed, as they said in their article titled, “Mortgage applications inch up for the first time in five weeks.”

That’s the kind of [weird] market we currently live in.

Now, does the Fed quash that? What happens? I don’t know. It would be difficult to know.

But… this data helps you reconsider whether you can afford to buy a home right now, refinance, or whatever other options you might have. If you’re a real estate agent, you can send this to somebody else who might need to know, so they can understand what’s happening and they can plan their next action steps.