Interest rates are one of the biggest factors that can influence your homebuying process. This little—or big—number can dictate how much house you can afford . . . and if you can afford to buy a house at all. With so much riding on this figure, it’s important to understand what determines interest rates.
Now, we know what you’re thinking: I know what determines interest rates. My credit score and the size of my down payment! And you would be correct on that, to some degree. While credit score and down payment are two factors that may impact the exact mortgage interest rate offered to you, there are larger interest rate factors at play that determine where these published rates will land day in and day out.
Though you may not know it, there are five surprising factors that can influence mortgage interest rates.
1. Election Years
If there’s one thing the economy doesn’t like, it’s uncertainty. Uncertainty causes volatility in the stock market, which can impact mortgage interest rates. While a presidential election will predictably occur every four years, the notion that the leader of the free world may or may not change understandably brings a degree of uncertainty.
This uncertainty can lead to insecurity, which can manifest as a drop in the stock market. Investors tend to trade in stocks for the security of U.S. treasuries when insecurity rears its head, and that causes mortgage rates to drop. On the flipside, when the economy is doing well, the market is booming, and the general public feels confident in the world around them, mortgage interest rates tend to rise.
2. Global Pandemic
Though you may not be able to name all the surprising interest rate factors, we’re guessing you noticed that the COVID-19 pandemic had a direct effect on this year’s drop in rates. At face value, a global health crisis and the housing market may not appear to have a strong link. Your perception may change, however, when you consider that a virus with the strength to shut down businesses all over the world will undoubtedly have an effect on the global growth outlook.
We already know that uncertainty can play a role in what determines interest rates, so it’s no surprise, then, that an unfavorable U.S. or global growth outlook would cause interest rates to drop. Uncertainty remains as COVID-19 cases ebb and flow all over the world and outbreaks occur in specific hotspots. Things will likely remain uncertain until a vaccine is widely available and the general public feels confident that this pandemic and its corresponding restrictions will soon be firmly in our rearview mirrors.
3. Natural Disasters
A wildfire, a hurricane, and an earthquake seemingly have little to do with what determines interest rates, but as you’ve seen above, there are many sneaky connections between the two. Mortgage bankers operate all over the country, making it impossible to avoid all natural disasters. When one hits, it creates an economic burden on that community that ripples through the area’s GDP and businesses, causing a direct impact to employment, tourism and housing industries.
Aside from the loss of life and property, a natural disaster can impact the sale of homes, office operations, and even the suppliers of homebuilding materials. This can interrupt the normal mortgage pipeline. Sometimes, a mortgage lender may even have to freeze loans as they survey how much damage was done to their operations and to the homes that currently hold mortgages through the bank. A delay in funding can cost the mortgage banker money, while confirming the property status of funded loans can prohibit the mortgage banker from selling those loans. The resounding theme surrounding a natural disaster is—you guessed it—uncertainty. With natural disasters, the size and severity of the destruction tends to correlate with how far mortgage interest rates will drop.
War is an interesting factor when you consider what determines interest rates. On the one hand, it creates a ton of uncertainty. On the other hand, interest rates tend to rise in times of war. This is because war spending is financed through debt, which raises the country’s ratio of national debt to GDP. Mortgages, like other commodities, are based on supply and demand. When the demand for debt is high, mortgage interest rates increase.
Wartime spending can also place pressure on inflation as the cost of goods and services rises. This naturally leads to an increase in the cost of getting a mortgage, which is expressed as an interest rate increase.
5. Fluctuating Oil Prices
Speaking of inflation, oil prices can have a direct impact on inflation when energy prices rise, thereby increasing the cost of fuel. An oversupply of oil takes the pressure off of inflation and, with dwindling demand, lowers the cost of these goods. Conversely, a reduction in oil production, an increase in manufacturing demand, and instability in oil-producing regions can cause a run on oil, causing prices to rise. What happens when oil prices rise? You guessed it, the possibility of rising interest rates.
Another byproduct of low oil prices is an investment in U.S. treasuries as investors turn their attention from oil-producing companies and countries to safer investment vehicles.
Ready to lock in your interest rate while they remain favorable? Our trusted APM advisors are here to ensure that you secure the best possible rate. Find one near you today!