Mortgage Rates vs. CPI: Low Inflation = Low Rates

While it looked like mortgage rates might not break, a positive CPI report has led to a big rally.

It’s one of the bright sides of a decidedly negative environment, where if and when good news finally materializes, it could make a big impact.

That good news was a Consumer Price Index (CPI) report that showed inflation slowing in September to October.

As such, bond prices rose and the corresponding yields fell, leading to a correction in interest rates on longer-term mortgages.

Long story short, 30-year fixed mortgage rates are below 7% and even in the mid-6% range, after rising above 7.25% earlier this month.

Why does the CPI matter to mortgage rates?

there are Several factors These help determine the price and direction of long-term mortgage rates, such as the popular 30-year fix.

But there is a big inflation, which has come to the center this time. Mortgage rate watchers and the Fed have been fixated on inflation lately.

After all, mortgage rates more than doubled from about 3.25% at the beginning of the year to about 7% this week.

In short, the Fed began buying hundreds of billions in mortgage-backed securities and Treasuries to lower interest rates and lend more, which is called quantitative easing (Qi).

This allowed mortgage rates to drop to record lows as the Fed bought as much as lenders churned (they created sustained demand).

However, in doing so they increased the money supply and this led to years of easy credit and perhaps speculation.

This could not go on forever, but the pandemic did last longer than anticipated, leading to a spike in inflation.

And earlier this year the Fed began tightening through quantitative tightening (QT), with a series of large rate hikes.

This pushed mortgage rates up to an unprecedented rate, as they faced inflation.

To measure the effectiveness of these rate hikes, we look to the CPI report to determine whether consumer prices are rising or falling.

Latest CPI report shows slowing inflation

latest The Consumer Price Index (CPI) may be a sign that the Fed’s aggressive rate hikes are finally taking a legitimate bite out of inflation.

And if inflation is indeed slowing, interest rates may come down, especially since they’ve been so high recently.

The index for all items except food and energy rose only 0.3 percent in October after a 0.6 percent increase in September.

In other words, after two months in a row the reading was at 0.6 percent, there was a significant improvement in conditions.

And lower prices mean inflation may be slowing, which is good news for interest rates.

That was enough to trigger a rally in bonds, with the 10-year Treasury yield falling 31 basis points (bps) at last look.

The 10-year is now at 3.84%, down from 4.15% yesterday, a sizeable move that brings it back to levels seen in early October.

he was obviously That’s enough for mortgage lenders to bring their mortgage rates down from about 7% to 6.625%, or closer to 6.5%.

It’s a massive one-day move, even though mortgage rates remain well above levels seen earlier this year.

And it could be a sign that mortgage rates may have peaked, and may begin to settle back into the 5% range if all goes well.

This is only a CPI report, it may not indicate any trend

Before we get too excited, perhaps it is important to point out that this is only a CPI report.

In July, the CPI index for all goods except food and energy also rose just 0.3 percent after rising 0.7 percent in June and 0.6 percent in May.

So we’ve seen it happen before, and then resume its upward trajectory. This means the Fed’s inflation battle may still be a long one.

Thus, this may only be a temporary respite for mortgage rates before they reach higher highs, perhaps 8%.

At this point, no one really knows what the long term trend is, but they will take the good news today.

I should add that mortgage lenders will be cautiously optimistic here, and may not pass on all the savings to consumers just yet.

Sure, mortgage rates are low, but they won’t go out of their way to offer a full discount until they see real proof that inflation has calmed down.

Still, it is a positive development and one that the Fed was keen to convey as a result of its multiple rate hikes.

If the CPI continues to improve, it would signal a cooling economy which could lead to lower interest rates on home loans and other consumer loans.

It could also rationalize the Fed’s plan to raise its fed funds rate slowly, from 75 basis points to 50 points at a time and then 25 points at a time.

And by early 2023, maybe stop raising rates and even consider lowering them.

this may strengthen the case sub-5% mortgage rates by next year, Don’t be surprised if mortgage rates go up again in the meantime.

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