While it’s a common belief that when the Federal Reserve lowers its federal funds rate, it leads directly to lower mortgage rates, the relationship is not always a simple one-to-one correlation. Mortgage rates are influenced by a complex web of economic factors, and sometimes, they move counterintuitively. The primary driver of mortgage rates is not the Fed funds rate itself, but the 10-year Treasury bond yield.
The Role of the 10-Year Treasury Yield
Mortgage rates are most closely tied to the yield of the 10-year Treasury bond. This is because mortgage lenders use this long-term bond yield as a benchmark to price their home loans. When the yield on the 10-year Treasury rises, so do mortgage rates, as lenders must offer a competitive return to investors who could otherwise buy government bonds. Conversely, when the yield falls, mortgage rates typically follow suit. Therefore, while the Federal Reserve may adjust its Fed funds rate, other market forces and investor sentiment, such as concerns about a future recession or the impact of tariffs, can cause the bond yield to remain elevated.
The Ideal Housing Market Scenario
For the housing market to truly rebound, consumer demand needs to be spurred by lower interest rates. Many potential buyers are currently on the sidelines, waiting for rates to drop. A significant number of surveys suggest that a rate between 5% and 5.5% would be enough to get many of these buyers to enter the market.