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No Correlation: The Fed Funds Rate And 30-Year Fixed Mortgage Rates

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The Fed Funds Rate ≠ Consumer Mortgage Rates

Adjectives play an important role in the English language -- they modify nouns. Because of adjectives, we can linguistically separate good movies from bad movies, rainy days from sunny days, and sore losers from lovable losers.
Sometimes, adjectives are superfluous. For example, it's pretty clear that this blog is a mortgage blog so when yours truly writes something like "rates are lower", it's implied that I'm talking about mortgage rates.
I don't need to constantly say "mortgage rates".
Other times, however, omitting adjectives leads to misunderstandings. And it happens nearly every time the Federal Open Market Committee meets.
Here's why.

Explaining the FOMC In Layman Terms

The Federal Open Market Committee is a government group that makes monetary policy. It's job is akin to the gas-and-brake pedals on a car -- speed up or slow down the vehicle that is the U.S. economy.
The FOMC has 12 members and is headed by Chairman Ben Bernanke.
8 times annually, the Fed gets together to discuss a host of economic issues and, when the meeting is done, the members vote on whether to raise, lower, or leave unchanged an interest rate called the Fed Funds Rate.
The Fed Funds Rate is the prescribed interest rate at which banks lend money to each other overnight.
Simplified, when the Fed Funds Rate is high, banks end up paying a lot of money in interest payments and are less inclined to borrow from one another, thereby slowing down the economy. When the Fed Funds Rate is low, borrowing is cheap, and the economy is spurred forward.
Because the Fed Funds Rate is directly related to Prime Rate, the basis of business and consumer borrowing, the FOMC's vote carries huge implications for the economy as a whole.

The FOMC Does Not Vote On Mortgage Rates

The FOMC starts a 2-day meeting today, adjourning at 2:15 PM ET Wednesday. The group is expected to leave the Fed Funds Rate unchanged within its current range of 0.000-0.250 percent. This is the lowest Fed Funds Rate is history; a level held since December 2008.
The Fed has repeatedly said that the Fed Funds Rate will stay near zero for "an extended period" and, starting close to 2:30 PM ET tomorrow, the press will start reporting that the Fed voted to "leave rates unchanged".
And this brings us back to adjectives -- implied or otherwise.
The proper verbiage from the press would be "the Fed voted to leave the Fed Funds Rate unchanged today", but that's not how the headlines will read. They'll just say "rates".
This is a big deal only because most Americans don't know what the Federal Reserve's true scope is; they never learned what the Fed does for the country, or how it does it. It's the main reason why, in my experience, Americans tend to think that the Federal Reserve controls daily mortgage rates.
It doesn't. Not even close.

Comparing The Fed Funds Rate To Mortgage Rates

The FOMC doesn't control mortgage rates. As proof, check out the chart at top. If the Fed Funds Rate was tied to mortgage rates, the graph would be linear.
The relationship between the Fed Funds Rate and the 30-year fixed rate mortgage is indirect, at best. The spread in rates has been as narrow as 1 percent and as wide as 5 percent in the last 10 years. There was even a period in the 1970s -- then again in the 1980s -- when the spread went negative; where mortgage rates were lower than the Fed Funds Rate.
Fundamentally, the two rates are different, too. The Fed Funds Rate is an overnight rate. The 30-year fixed mortgage is a long-term rate.
Borrowing money for 8 hours is different as compared to 263,000 hours.

Make A Mortgage Rate Lock Plan Ahead Of The FOMC

It's dangerous to float a mortgage rate ahead of the FOMC.
Although Fed Funds Rate won't changed, there's always the chance that the Fed says something that causes mortgage rates to spike. It's happened in the past and it could happen again. One such example is from November 3, 2010 when the FOMC announced $600 billion in support of mortgage market. It sparked inflation fears and mortgage rates haven't been the same since.
Therefore, if you're shopping for a mortgage right now, or otherwise not locked in, talk to your loan officer in advance of the Fed's 2:15 P.M. ET announcement Wednesday. Rates may not rise, but then again, maybe they will. It stinks to be on the wrong side of that bet.
Or, if you don't have a loan officer, just send me an email with some bullet points about your loan. We work it from there together.