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Why low mortgage rates are not necessarily good news

The average interest rate on a 30-year fixed-rate loan fell from 5.7% last week to 5.3% this week.
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Earlier this week, Freddie Mac reported that mortgage rates had fallen rapidly over the course of the week.

The government-sponsored entity that buys mortgages on the secondary market tracks trends in mortgage rates. Its data showed that the average interest rate on a 30-year fixed-rate loan fell from 5.7% last week to 5.3% this week.

This decline rate was the biggest decrease since 2008, and it’s a reversal of recent trends, which have seen financing costs increasing rapidly since the heart of the pandemic.

However, home buyers shouldn’t get too excited. There are two important reasons why this news isn’t necessarily a positive thing.

1. Rates dropped due to fears of a recession

The first big reason why homeowners shouldn’t be too happy about the big rate decrease relates to the reason behind it.

Specifically, mortgage rates experienced such a rapid decline because fears of a recession are growing. A recession is a prolonged economic downturn, often marked by two quarters of declining gross domestic product (GDP). Because many investors are afraid of a recession, they are flocking to buy U.S. Treasuries.

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Treasury yields fall as prices increase, so this rapid rise in the number of investors interested in buying Treasury notes has driven down yields. And mortgage rates closely track the benchmark on 10-year Treasury notes due to the fact that mortgage-backed securities and Treasuries tend to attract the same kind of investors.

If the country does enter a recession, as all of these investors fear, it could have major financial consequences for everyone – homeowners and home buyers included.

Unemployment increases during a recession, and often investments see a decline in value. If the entire economy is contracting, more people are likely to lose jobs, increasing the risk of foreclosure or making it more difficult to afford a home purchase in the first place.

And while a recession might lead to falling home prices, it’s possible that would-be borrowers won’t even get this benefit as demand for homes could remain higher than supply even during times of economic trouble.

2. Rates remain the highest they have been in years

Another big reason why homeowners shouldn’t get too excited about the reduction in rates is because financing costs still remain higher than they have been in years.

An average rate of 5.3% is well above the average rate of 2.67% on 30-year fixed-rate loans in December 2020. It’s still higher than rates have been over the course of most of the past decade. And not all buyers qualify for the average rate, so some would-be homeowners have been offered mortgage loans with rates topping 6%. This remains unaffordable for many.

More on purchasing homes:Why you should wait to buy furniture or a car until after you close on your house

The Atlanta Federal Reserve also reported that the typical household is spending an extra $400 on monthly mortgage costs compared to how much they’d have spent in January of this year. For households with a median income, this means the mortgage payment for a median-priced property could eat up as much as 41.2% of their income. This is above the 25% to 30% of income that most experts define as affordable.

So, while it may be cheaper to buy a home than it was a week ago, it’s still not inexpensive. And if the country falls into a recession, making these high payments could be harder than ever.

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We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.The Motley Fool has a disclosure policy.

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Written By

Avi Adkins is a seasoned journalist with a passion for storytelling and a keen eye for detail. With years of experience in the field, Adkins has established himself as a respected figure in journalism.

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