Why Aren’t Mortgage Rates Falling More? The 10-Year Treasury May Be the Problem

Mortgage rates finally gave homebuyers a little relief this week, but anyone hoping for a major drop is still waiting.

Freddie Mac reported that the average 30-year fixed mortgage rate fell to 6.67% for the week ending August 13, down slightly from 6.69% the previous week.

At the same time, inflation data came in softer and financial markets reduced expectations for another immediate Federal Reserve rate increase.

That sounds like a recipe for substantially lower mortgage rates.

It hasn’t been.

One reason is the long-term bond market — especially the 10-year U.S. Treasury yield.

Despite better inflation news, longer-term Treasury yields remain elevated, making it difficult for mortgage rates to move meaningfully lower.

Quick Answer

Mortgage rates are not controlled directly by the Federal Reserve. They are heavily influenced by the bond market, including mortgage-backed securities and longer-term Treasury yields.

The 10-year Treasury is one of the most important benchmarks to watch.

When its yield stays high, mortgage rates often face similar pressure. Right now, the Treasury market is not responding to softer inflation as strongly as many homebuyers might expect.

That helps explain why the average 30-year mortgage rate can remain near 6.7% even after economic reports appear favorable for borrowing costs.

Mortgage Rates Finally Moved Lower — Just Not by Much

Freddie Mac reported an average 30-year fixed mortgage rate of 6.67% as of August 13.

That was down from 6.69% one week earlier and marked the first weekly decline in six weeks.

The average 15-year fixed mortgage also moved lower, falling to 5.96% from 6.01%.

Any decline is helpful for borrowers, but a two-basis-point drop does not dramatically change home affordability.

Loan Under Review recently reported that mortgage applications rose 3.6% as rates eased from recent highs, showing how sensitive borrowers have become to even relatively small movements in mortgage pricing.

But the latest bond-market activity suggests buyers should be careful about assuming a much larger rate decline is right around the corner.

Why the 10-Year Treasury Matters to Mortgage Rates

One of the biggest misconceptions about mortgages is that the Federal Reserve sets mortgage rates.

It doesn’t.

The Fed sets a short-term benchmark interest rate called the federal funds rate.

Thirty-year fixed mortgage rates are influenced much more directly by financial markets, particularly mortgage-backed securities.

Treasury securities matter because they compete with mortgage-backed securities for investor money.

U.S. Treasurys are generally considered lower-risk investments because they are backed by the federal government. Mortgage-backed securities carry additional risks, including the possibility that homeowners will refinance or repay their loans early.

Because of that additional risk, investors generally expect mortgage-backed securities to provide a higher return than comparable Treasury securities.

When Treasury yields rise, mortgage rates often rise as well.

When Treasury yields fall, mortgage rates generally have more room to decline.

The relationship is not exact, but it is close enough that the 10-year Treasury is one of the first market indicators mortgage professionals watch when trying to understand where rates may be headed.

For a deeper explanation, see Loan Under Review’s guide to what actually drives mortgage rates and why the 10-year Treasury matters.

Softer Inflation Should Have Helped

Homebuyers received encouraging inflation news this week.

The latest Producer Price Index from the U.S. Bureau of Labor Statistics showed that prices for final demand were unchanged in July on a seasonally adjusted basis.

That followed softer consumer inflation data earlier in the week.

Loan Under Review covered that report in July Inflation Cools to 3.4% as Mortgage Rate Pressure Eases.

Cooling inflation usually helps the bond market.

That is because inflation reduces the future purchasing power of the fixed interest payments investors receive from bonds.

If investors believe inflation will remain high, they typically demand higher yields.

If inflation appears to be moving lower, investors may be willing to accept lower yields.

Lower Treasury yields can then help create room for lower mortgage rates.

That process started to happen after the inflation reports.

But the long-term bond market did not provide the kind of sustained rally that mortgage borrowers would need for a major rate decline.

Treasury Auctions Show Investors Still Want Higher Yields

This week’s Treasury auctions provided an important clue about what is happening.

Long-term Treasury auctions produced unusually high yields, showing that investors continue to demand substantial returns to commit money to longer-dated U.S. government debt.

That is significant because Treasury auctions show what kind of return investors are demanding to lend money to the U.S. government for long periods.

Strong demand can push yields lower.

When investors require higher yields, long-term borrowing costs can remain elevated even when short-term economic news appears favorable.

For mortgage borrowers, that distinction matters.

A softer inflation report may reduce the chance of another Federal Reserve rate increase while doing surprisingly little to bring down the longer-term yields that influence mortgage pricing.

The Bond Market Is Worried About More Than the Fed

The long-term Treasury market is weighing risks that go well beyond the Federal Reserve’s next meeting.

Investors have to consider future inflation, economic growth, federal borrowing and the supply of new Treasury debt entering the market.

Energy prices are another concern because rising fuel costs can eventually feed into transportation, manufacturing and consumer prices.

That helps explain the unusual situation borrowers are seeing now.

Economic data can become friendlier to interest rates while long-term borrowing costs remain stubbornly high.

The Fed Can Hold Rates Steady and Mortgage Rates Can Still Rise

This is also why waiting for a Federal Reserve announcement does not necessarily tell a homebuyer what will happen to mortgage rates.

The Fed could leave its benchmark rate unchanged and mortgage rates could still rise.

The Fed could eventually reduce its benchmark rate and mortgage rates might fall by much less.

Mortgage rates can even move before the Fed acts because investors are constantly pricing expectations about future inflation and economic conditions into bond yields.

That is why borrowers who want to understand mortgage-rate movements should pay attention to the 10-year Treasury along with Federal Reserve policy.

Why Aren’t Mortgage Rates Falling More?

There isn’t one single reason.

The 10-year Treasury is an important part of the explanation, but mortgage rates also depend on mortgage-backed security pricing and the spread investors demand above Treasury yields.

Inflation remains another factor.

Long-term investors also have to consider whether inflation could pick up again years from now.

Government borrowing can matter too.

If the Treasury needs to issue large amounts of debt, investors have to absorb that supply. Higher yields can sometimes be required to attract enough buyers.

Put those factors together and the result is a mortgage market that can remain expensive even while individual economic reports look increasingly favorable.

What Would Need to Happen for Mortgage Rates to Fall More?

A larger and more sustained decline in mortgage rates would likely require several pieces to move in the same direction.

Consistently cooler inflation would help.

A sustained decline in the 10-year Treasury yield would help.

Stronger investor demand for Treasury securities and mortgage-backed securities could help.

A narrowing of the spread between Treasury yields and mortgage rates could also improve borrowing costs.

None of those outcomes is guaranteed.

That is why borrowers should be skeptical of predictions that mortgage rates are definitely about to plunge.

Rates can change quickly when new inflation, employment, economic or geopolitical information reaches the market.

What Does a Lower Mortgage Rate Actually Save?

For buyers, the more important question is often not whether mortgage rates move by a few basis points tomorrow.

It is what different rates do to the actual payment.

Buyers can use the free Loan Under Review mortgage calculators to compare different mortgage-rate scenarios, estimated payments, affordability and refinance situations.

Running the numbers at several interest rates can be more useful than planning a home purchase around a prediction of where rates might be several months from now.

Homebuyers Still Need to Compare the Actual Loan

National mortgage-rate averages are useful for identifying market trends.

They are not the rate every borrower will receive.

An individual mortgage quote can depend on credit history, down payment, loan amount, loan program, property type, occupancy, points and lender pricing.

Borrowers should compare Loan Estimates and look at the interest rate, annual percentage rate, discount points, lender fees, mortgage insurance and total estimated cash needed to close.

First-time buyers who are still learning how the process works can find additional guidance in the Loan Under Review First-Time Buyers section.

What Mortgage Borrowers Should Watch Next

The 10-year Treasury deserves a place on the list.

But borrowers should not react to every small intraday movement.

Instead, watch the broader trend along with upcoming inflation reports, employment data, Federal Reserve decisions and mortgage-rate surveys.

The most useful question is whether long-term Treasury yields begin moving sustainably lower rather than whether they have one good trading day.

That would give the mortgage market a stronger foundation for meaningful improvement.

The Bottom Line

Mortgage rates finally moved slightly lower this week, but the decline has been far smaller than many homebuyers might expect after softer inflation reports.

The long-term Treasury market helps explain why.

Investors are still demanding relatively high yields on U.S. government debt, making it difficult for mortgage borrowing costs to fall substantially.

That does not mean mortgage rates cannot fall.

It means a Federal Reserve pause or one encouraging inflation report may not be enough by itself.

For borrowers waiting for meaningful mortgage-rate relief, the 10-year Treasury may be one of the most important numbers to watch.

Sources

• Freddie Mac — Primary Mortgage Market Survey
• U.S. Bureau of Labor Statistics — Producer Price Index
• U.S. Department of the Treasury — Interest Rate Statistics

Educational information only: Loan Under Review provides independent mortgage education and news information. Loan Under Review is not a lender and does not provide financial, legal or investment advice. Mortgage rates, loan terms and eligibility vary by lender and borrower circumstances.