On Wednesday, the Federal Reserve announced an increase to its federal funds rate. This is the rate at which banks can lend each other excess reserves overnight. It is a benchmark rate, not the rate individual borrowers pay. But it affects the rates of both debt and savings.
The increase announced was a half-percentage point. It’s the second increase since 2018, and the largest since 2008. It brings the federal funds rate to between 0.75% and 1.00%, up from near-0% rates during the heart of the pandemic and up from the current range of 0.25% to 0.50%.
This change will likely result in mortgage rates rising, which can make home loans more expensive. But, although it may cost more to borrow to buy a house, this isn’t necessarily the worst news for home buyers. Here’s why.
The rate hike could cool a hot housing market
There’s one big reason why an increase in interest rates could be good news for home buyers. It could help bring soaring home prices back down to a more reasonable level.
During the pandemic, mortgage interest rates repeatedly fell to record lows. Since it cost very little to borrow to buy a home, demand surged. But many people were reluctant to list properties during a global pandemic, so supply was constrained. This contributed to a massive increase in home prices during the pandemic, with many buyers coping with bidding wars.
In 2022, however, mortgage rates have been steadily increasing. Last year, it was possible to secure a 30-year mortgage for under 3%. That’s definitely not the case anymore, even for well-qualified borrowers. The national average interest rate on a 30-year loan is now above 5%. And with this latest news from the Federal Reserve, there’s a very real possibility it could climb further.
As rates have gone up, there’s been some signs that costlier mortgages are reducing demand for homes. Not only are loans more expensive, but they can also be harder to qualify for at higher rates. This helps to explain why applications for loans to purchase new homes fell 17% in April compared with the prior year, according to the Mortgage Bankers Association.
Home sales and prices are starting to decline
This is having an impact on home sales. In fact, there was a 2.7% decline in sales of existing homes in March as reported by the National Association of Realtors. This decline occurred across most of the country, with the exception of the West. Unsurprisingly, sales prices have also begun dropping, with prices falling on as many as 14% of homes over the prior four weeks, according to data from Redfin.
If home prices fall, even as loans become more expensive, buying a home may still be within reach. In fact, if there are fewer bidding wars, borrowers may even end up better off since they’ll pay less for their properties.
Since mortgage loans still remain relatively affordable by historical standards, and mortgages can always be refinanced if rates fall again in the future, there’s an argument to be made that borrowers are better off with a higher loan cost but a lower-priced home.
Should you buy a house now?
Whether you should buy a house as rates rise depends on your financial situation, including your ability to qualify for an affordable mortgage loan based on your credit score and current debt levels.
But you shouldn’t necessarily put off buying solely due to rising rates. Instead, it’s a good idea to get several mortgage quotes, shop around for homes in your area, and see exactly what buying would cost you under today’s market conditions.
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