Fed Cuts Rates by Half a Point; Mortgage Rates May Fall Below 6%

After sustaining a 23-year high for over a year, the Federal Reserve has elected to slash the federal funds target rate by half a point, dropping from a range of 5.25%-5.50% to 4.75%-5%.

Lenders anticipated that the Fed would move to lower rates by some degree, and began adjusting mortgage rate offers ahead of the September 17-18 meeting: Rates fell 23 basis points in the week ending September 12. (A basis point is one one-hundredth of a percentage point.) This means that home shoppers who still find today’s rates out of budget shouldn’t expect more than modest drops in the coming days.

The Fed has held rates steady for the past 14 months in an effort to control inflation. Recent data shows that the economy is moving toward central bankers’ target inflation rate of 2% — the latest Consumer Price Index (CPI) report, a broad measure of price changes for goods and services in the U.S., shows that inflation slowed to 2.5% in August, down from 2.9% in July and 3% in June.

This data alone may have justified a softer cut of 25 basis points to keep inflation on a downward trajectory. However, job growth continued to slow in August, and a fairly weak July jobs report showed the rate of unemployment hitting a three-year high. Unemployment is a leading sign of recession, and the Fed’s decision to reduce rates by 50 basis points indicates that employment may have now eclipsed inflation as the Fed’s chief concern for the economy.

While this is good news for mortgage shoppers hoping to score a lower interest rate, the Fed’s aggressive move may reflect an effort to hold off “more rapidly deteriorating labor market conditions and weakening of the economy,” said Selma Hepp, chief economist and senior vice president at the housing data provider CoreLogic.

Lawrence Yun, chief economist at the National Association of Realtors (NAR), said that the Fed’s choice could be the result of both positive and negative factors. If an unsteady job market is the Fed’s primary motivation, it could mean that central bankers see the possibility of a recession. On the other hand, it could be a good sign “if the Fed has a solid belief that inflation is conquered, even as CPI remains at 2.5%.”

Falling interest rates are likely to signal changes across the housing market. Freddie Mac’s August 2024 Outlook projects that the labor market will continue to weaken into 2025. In this scenario, Freddie Mac outlines the probability that mortgage rates will trend downward in the coming months, leading to a “significant surge in demand, mainly from the first-time home buyers left at the margins,” as well as a small uptick in housing inventory as the rate lock-in effect loosens somewhat.

With an influx of buyers and inventory remaining tight, home prices are expected to rise 2.1% in 2024 and 0.6% in 2025. Fannie Mae’s August economic development report projects that mortgage rates will average 6% in 2025.

While Fed watchers are mostly inclined to believe that another cut will come at the November 6-7 meeting, any decision by central bankers will be informed by trends in new economic data as it emerges. One CPI report and two jobs reports will be released between now and then, and what they reveal about the rates of inflation, unemployment and job growth will be a major indicator of when and how the Fed may choose to shift rates.

Market traders were divided over predictions of what central bankers would do in the days leading up to this September meeting. Those currently shopping for a mortgage should remember that mortgage rates will continue responding to expectations of what the Fed will do, rather than waiting for central bankers to take action. If additional rate cuts are expected, we could see mortgage rates fall even further before the November meeting.

There’s no perfect way to time the market, and buyers holding out for mortgage rates to hit their lowest point will have to contend with greater competition and higher home prices. While it’s understandable to want to get the best deal, the “right time to buy” is determined by personal factors as much as economic ones.

If you can afford to move forward with your homebuying plans now and want to take advantage of refinancing later, you can benefit from strategically keeping your closing costs as low as possible, since you’ll have to pay them again when refinancing. For example, if you’re hoping to refinance in the next year or so, it wouldn’t make sense to pay for points that lower your mortgage rate at closing right now.