Lower Interest Rates and Markets
August 02, 2024
The Federal Reserve meeting on July 31st did not yield a rate cut, but many Americans may have reason for enthusiasm. Wednesday, Fed Chair Jerome Powell said, “... a reduction in our policy rate could be on the table as soon as the next meeting in September.” With inflation rates that danced close to double digits still in the memory of many American consumers, it may be difficult for some to recognize the progress the economy has made. After all, the rate of inflation shrinking does not bring price levels back to where they were; it just stops them from going even higher too fast. Nevertheless, inflation is moving closer to the Fed’s 2% target, and with cuts now “on the table,” it is important to think about what the economy will look like with lower rates.
The housing market is one element of the economy that has a unique relationship to interest rates. Many obtained fixed mortgages with rock-bottom rates that might be keeping supply down due to homeowners unwilling to give up fixed rates at low rates for current ones. Fortune’s Alena Botros reports that 58.10% of outstanding mortgages have an interest rate of no more than 4%. The Federal Reserve Bank of St. Louis pegs the average 30-year fixed mortgage rate at 6.73% as of August 1st. While that is lower than the rate six months ago, it is a far cry from the sub-4 rates available not too many years ago.
If an individual expects interest rates to drop, they might naturally assume housing prices will rise as borrowing becomes cheaper and prospective buyers waiting on the sidelines jump in. However, since there are so many homes with low-rate mortgages on them, it will be worth watching to see if that pent-up demand will be met with a large number of sellers who waited until they could exchange one low-rate loan for another.
While housing is an important factor when considering interest rates, a rate cut will have broader effects on markets. For instance, bond prices suffered as yields rose over the last couple of years. In 2020 and 2021, yields were especially low, however, when the 20-year Treasury yield hovered in a band around 1 to 2%. Currently, it sits at over 4%, which is high for the last five years, but historically, not so much; the 20-year Treasury had around the same yield in 2007. Now, with rates potentially being cut, bonds have hope for a significant recovery as yields drop (which they have already done since October 2023).
It is worth noting that Powell made an additional comment about cuts: “... we’re getting closer to the point… we’re not quite at that point yet.” Once that point comes, the effects on housing and bond markets will be closely watched. Until then, Americans must take solace in Powell’s affirmation that “we’re getting closer.”