How Are Mortgage Rates Determined?

• Author: Jessica Williams
• Posted: 2024-12-20

Mortgage rates are based on the risk factors and the credit score of borrowers. But there's a science to mortgage rates. Lenders have to take into account the changes in the economy and inflation to determine the mortgage interest rates. Changing financial conditions, such as the stock market, affect the amount that lenders are willing to lend, and thus, the interest rates of borrowers are subject to change. Therefore, a lower mortgage interest rate is always preferable, since a higher one will make it harder to get a loan.

While interest rates tend to increase when prices rise, they tend to decrease during periods of low inflation. If prices increase, mortgage lenders will want to make more money, thus increasing the interest rate. However, if inflation increases too much, lenders may increase rates. Other factors that influence mortgage rates are the policies of the Federal Reserve, the U.S. central bank. The Federal Reserve can change the federal funds rate, which is the interest rate that banks charge one another overnight. Rising federal funds rates cause mortgage rates to increase.

The Fed raises the Fed rate when it wants to tighten the money supply. While the Fed does not directly affect mortgage rates, it does make the cost of borrowing money from the Fed higher. However, mortgage rates are closely tied to the bond market. MBS are bundles of mortgages that are sold in the bond market. The demand for mortgage bonds affects mortgage rates. When the stock market is poor, investors are looking to buy these securities, and their prices rise. If the demand for mortgage bonds is low, mortgage rates will decrease.