The Average 30-year fixed rate mortgage is currently sitting at 7.10% as of Jan. 6, 2025. This is a stark contrast when compared to the all-time lows of 2.75% back in the beginning of 2021. We have seen the cost of financing a mortgage skyrocket as the Federal Reserve began to increase interest rates after the COVID Pandemic back in 2022 to tackle the ongoing inflation battle within the economy. Starting back in September of 2024 the Fed has begun to cut interest rates and mortgage rates have remained at their relatively heightened levels. We saw a record amount of US homes purchased with all cash. According to the National Association of Realtors 26% of home buyers paid with cash for their home in 2024. Despite the Fed’s most recent actions to decreasing the interest rates, there has been little to no effect on mortgage rates, which makes it harder for the housing market to function properly. Now, let’s examine the key reasons behind the persistence of current mortgage rates.
One of the tools used by the Federal Reserve to persuade economic decisions is the Federal Funds rate. The Federal Funds rate allows the Fed to control short-term lending rates known as the overnight rates. The Fed has cut rates 3 times in 2024 for a total of one full percentage point. As of January 6th, 2025, the Fed Funds rate is at 4.33% compared to 5.33% in September of 2024. The Federal Funds rate set by the Federal Reserve has a very limited effect on mortgage rates. Despite perceptions held by some, there is no direct correlation between the federal funds rate and mortgage rates. Since the announcement of the first rate cut, Treasury yields have increased along with the 30-year fixed mortgage rates.
Mortgage rates are mostly influenced by the strength and outlook of the US economy. The barometer that banks use to set mortgage rates is the 10-year Treasury yield, which is considered risk-free. The 10-year Treasury yield is the return on investment for loaning the US government money for a 10-year period. To account for the risk involved in providing a mortgage to the US consumer, there is what is known as “the spread”. This term is used to account for the difference in percentage of the 10-year Treasury note yield and the average 30-year fixed mortgage interest rate.
With government spending increasing and the US debt continuing to rise, many investors in the market are looking for a higher yield to compensate for the risks involved. One of those risks is the potential for an increase in inflation. When investors sell Treasury bonds in search of higher returns in the markets, Treasury yields will increase because of it. Despite the Fed’s ability of trying to influence the markets to do one thing; the market has its own intentions and ability to drive rates where investors deem to be fit.
The general consensus suggests that mortgage rates will decrease at some point this year. However, the key questions remain: by how much, and how long will we need to wait? According to the Federal Reserve, mortgage rate projections could trend just below 6.00% at a baseline projection of 5.93% through the end of 2025. With this in mind, mortgage rates will not drop below 3% like in 2021. However, with both mortgage rates and home prices reaching record highs, this situation is far from typical. Mortgage rates have been above 6% for two years, and has continued to be above this percentage as we enter 2025. When considering purchasing a home, it’s wise to assess your finances to determine if you can afford a home now, rather than waiting for the perfect market timing. It’s essential to base financial decisions on what we know today, rather than speculating on what might happen.
