According to what I read on Bloomberg’s web site, the Federal Reserve has decided to keep key interest rates near zero for an extended period. The Federal Reserve also confirmed that it will stop buying mortgage backed securities at the end of March.
So, what does this mean if you’re thinking of buying a house and need a home loan? As you may know, the Federal Reserve is the central banking system for the United States. Its job is to protect the stability of our monetary system. That is to keep inflation to a minimum and maintain economic growth. The Federal Reserve doesn’t interact with you or me; it sets the federal funds rate. The federal funds rate is the interest banks must pay to borrow money from each other. Many people think a bank receives money from depositors and in turn, loans out the money to borrowers. This is true, but wait, there’s more. Banks can actually loan out up to ten times as much money as it owns. That’s great for the Banks but I just want a loan.
Just like automobiles and hot dogs, if retailers can buy the product at a lower cost, they can retail (sell) the product at a lower cost to you the consumer. The number of consumers for any commodity increases as the retail price of the commodity decreases. As consumers, we like low prices. In this example, the money you want to borrow is the commodity and the cost of the loan is the retail price, also known as the interest rate you pay.
If the key interest rate stays low, it’s my opinion this is good news for people wishing to obtain a loan to buy a house. But what happens if the Federal Reserve stops buying mortgage backed securities?
First, a simple definition: A mortgage backed security is an asset backed security. In this example, the promissory note a borrower signs to obtain a home loan is only a piece of paper. However, the owner of the “paper” has the right to foreclose and take the house (asset) from the borrower if the borrower does not make their loan payments. Therefore, if the Federal Reserve stops buying mortgage backed securities (paper) there could be less “new” money for the banks to lend.
I have some concerns if the Feds stop buying mortgage backed securities. Primarily, what will happen to mortgage interest rates? Could near term interest rates rise? If so, how much will the increase be? I’ve been hearing from one quarter of a percentage point all the way up to three quarters of a point.
Long story short, sometimes it’s better to get going while the getting is good. Or, if you snooze you lose…you get the point. If you’ve been thinking about buying, NOW could be the time. With some Redding homes selling for less than the cost to build and interest rates at historic lows; it doesn’t get much better for buyers. Just my thoughts for the day, what do you think?