Why Are Mortgage Rates So High, and How Long Will They Stay Up?

Mortgage rates are running at a 22-year high, crimping a housing market already squeezed by high prices.

Home buyers face an average rate of 7.23 percent on a 30-year fixed-rate mortgage, the most popular home loan in the United States, Freddie Mac reported on Aug. 24. That was the highest rate since June 2001.

The rise in rates has cooled demand for homes, with sales of existing homes down sharply from last year. And sellers who locked in low rates during the pandemic are reluctant to put their homes on the market because they fear they will not be able to find a comparable rate when they become buyers.

Mortgage rates are influenced by a number of factors, most beyond our control. The biggest driver is the bond market, but there’s more to it than that, said Melissa Cohn, regional vice president at William Raveis Mortgage, a real estate lender.

“Most consumers look at the simple story, but there are other forces at work,” she said. “We have a much more complicated economy.”

What influences mortgage rates?

It starts with the bond market.

Mortgage rates, like many other long-term loans, tend to track the rate, or yield, on the 10-year Treasury bond, which is seen as the safest bet for lenders because it is backed by the U.S. government. For many types of loans, lenders effectively start with that rate, often referred to as the risk-free rate, and then increase it to reflect the greater risk of not being repaid by borrowers like home buyers.

The yield on the 10-year Treasury note recently hit its highest point since 2007, climbing to 4.3 percent, reflecting the Federal Reserve’s efforts to tame inflation by pushing borrowing costs higher. The Fed sets short-term interest rates, and expectations for where those will go have a big influence on yields for longer-term bonds.

When inflation is running high, the Fed raises those short-term rates to slow the economy and reduce pressure on prices. But higher interest rates make it more expensive for banks to borrow, so they raise their rates on consumer loans, including mortgages, to compensate. That has been going on for over a year, with the Fed’s rate climbing above 5 percent, from near zero, and mortgage rates following suit.

A strong economy affects mortgage rates in other ways, too. A robust job market gives households more money to spend, which increases demand for mortgages, sending rates higher.

Lenders also often pool their mortgages into a portfolio, which they use to raise money by selling it to investors. These mortgage-backed securities are similar to bonds.

To stay competitive with the 10-year Treasury bond, lenders need to increase the yields on their mortgage-backed securities, which means higher rates for home loans. The gap between the yield on the 10-year Treasury note and mortgage-backed securities, known as the spread, is usually about two percentage points.

Right now, the difference is more like three percentage points, which has a big effect on the housing market by pushing mortgage rates higher, said Lawrence Yun, the chief economist at the National Association of Realtors.

“It is really puzzling that the spread is this wide and quite persistent,” he said.

How long will rates stay high?

Economists predict that mortgage rates will remain elevated for at least a few more months. And even when they start to come down, they are expected to settle well above the 3 percent rates that home buyers enjoyed during the early stages of the pandemic.

Mr. Yun said he expected rates to begin falling by the end of the year, possibly dropping to 6 percent by spring. “The rationality and economic logic says the rate should be lower,” he said, pointing out that the Fed has already slowed its interest rate increases.

The Mortgage Bankers Association, an industry group, recently forecast that the average 30-year mortgage rate would fall to 5 percent by the fourth quarter of next year.

Fed officials have acknowledged that they will need to take into account the potential economic costs of raising rates, and Mr. Yun said that included damage to regional banks, like the collapses of Silicon Valley Bank and Signature Bank.

What can a buyer do to get a lower rate?

It may seem that home buyers have little wiggle room, but there are things they can do to nab a lower rate, Ms. Cohn of William Raveis Mortgage said.

A strong credit score is important, she said, as well as a sizable down payment, usually at least 20 percent of the purchase price. Buyers who can manage that may find that they are in a less competitive market, which could make it easier to close a deal.

“Rates should be lower in the next 12 to 24 months,” Ms. Cohn said, and home buyers can refinance their mortgage when rates drop.

She also advises consumers to compare rates from multiple lenders. “There are no magic tricks,” she said. “You need to shop around.”