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How The Prime Rate Affects Mortgage Interest Rates

Most people assume that when the prime rate goes up, mortgage interest rates quickly follow. While there is not a direct correlation between the two, the prime rate can indirectly influence many mortgage loan rates.

Prime Rate

The prime rate is based largely on the federal funds rate, tracking about 3% higher than the Federal Reserve rate, and is the commercial short-term interest rate. It is often referred to as the rate that non-bank entities and consumers with the best credit ratings can borrow money from banks.

The Wall Street Journal surveys 30 major banks and re-calibrates the rate every time three-quarters of those banks change their rates. Because of this frequency, the WSJ Prime Rate is one of the most widely accepted current prime rates.

Which Rates Are Affected by Changes In the Prime Rate

While credit card, auto loan, home equity and other short-term loan rates are directly affected by the prime rate, most long-term loans such as 30 year fixed-rate mortgage loans are only indirectly influenced by changes in the prime rate. The exception is adjustable rate mortgages (ARMs), which are directly affected by changes in the prime rate.

How The Prime Rate Affects Mortgage Interest Rates

Mortgage rates are generally determined by economic factors rather than the federal funds rate or the prime rate. The supply and demand for new homes and the supply of money by the Federal Reserve both influence the mortgage interest rate.

When the Federal Reserve increases the supply of money circulating in the economy, market interest rates are pushed lower to encourage economic activity. When the supply of money is decreased, the rates will rise.

A high demand for new homes, especially with low supply, will generally push mortgage rates up, while a lower demand for homes will push the rates down.

While seldom used as a mortgage index, the prime rate does indirectly influence mortgage rates. The prime rate is an important national benchmark which reflects the “mood” of the economy. As the prime rate moves up in response to a federal funds increase, short-term consumer loan rates, home equity loans and adjustable rate mortgages follow suit. Fixed mortgage rates will historically move up as well, although there is usually a delay, or “lag-time” between changes in the prime rate and changes in the 30-year fixed mortgage interest rate as they are not directly tied together.

Conclusion

While the Federal Reserve rate and prime rate directly affect short term loans, they also indirectly influence fixed mortgage rates eventually. If you are considering buying a new home and are following the prime rate increases wondering if mortgage interest rates will follow, you can expect that they will eventually move up, especially if there is a high demand for housing.

With new home prices going up in 2018, a high demand for housing, and the prime rate increasing to over 5% last year, it’s better to act now instead of waiting, to avoid paying a lot more for a new home later.

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Will interest rates continue to rise in 2017?

The 30-year fixed-rate mortgage rose by just over a quarter of a percent recently to around 4 percent. That’s the largest one-week increase in over three years. What does that mean for home buyers? Will interest rates continue to rise in 2017?

Even though the rate hike has many home shoppers hitting the pause button on signing up for a new home mortgage, it’s important to remember that the rates are still at an historic low. In case you’re a Millennial and don’t remember interest rates above 7 or 8 percent, the rates in the 1980’s were in the teens. Although they’ve been historically low for the last six years, you have to go back 60 years or more to find interest rates below five percent before 2010. I got my first mortgage in 1992 and was thrilled to get 9.9 percent on a fixed rate loan. I would have killed for 4 percent.

Will interest rates continue to rise in 2017? The most likely answer is yes, but that’s not necessarily a bad sign. Generally speaking when the economy is strong the interest rates go higher, and when times are economically tough, the Fed lowers the rate in order to make it easier for consumers and businesses to borrow and spend, which pumps more money into the economy to help it recover.

So, if you are considering buying a new home in 2017, should you buy or should you wait? Most mortgage advisors would recommend locking in your rate as soon as possible to get the best rate.  It’s important to remember that your credit score is probably a much larger determining factor in what rate you might pay when getting a mortgage than the benchmark interest rate at this point. So, make sure to manage your credit rating and don’t make any large purchases on your credit cards or buy a new car anytime soon if you plan on buying a house this year.

McKee Homes works with a few mortgage companies which we refer to as our preferred lenders. These companies all provide excellent customer service and are going to give our homebuyers the best rates so they get a mortgage that works for them. We continue to see very positive survey reviews from our homebuyers in regards to our preferred lenders. In fact we pay all closing costs when buyers use one of our preferred lenders, and to lighten the sting of the interest rate hike, we are even giving our homebuyers free blinds and an upgraded refrigerator on all homes that are currently under construction or move-in ready until March 31, 2017.

For more information on our preferred lenders and our buyer incentives, please visit our Buyer Incentives web page or give us a call at 910-672-7296.