What the September Fed rate cut means for mortgage rates

The Federal Open Market Committee (FOMC) voted to cut rates by 0.25% at its meeting Wednesday on the heels of lackluster employment data and elevated inflation.

But if you think mortgage rates will drop, too, you might want to temper your expectations. That's because mortgage rates don't always dance to the Fed's tune — and recent history proves it.

When the Fed slashed rates three times last fall, something unexpected happened: mortgage rates actually climbed higher. It's a reminder that the relationship between Fed policy and home loan rates isn't as straightforward as many borrowers assume.

The central bank’s move is "a tactical step in the Fed's journey back to neutral, as policymakers respond to a shifting balance of risks," rather than a dramatic policy pivot, Sam Williamson, senior economist at First American, said in a statement ahead of the Fed's meeting.

Before the FOMC meeting, Williamson noted that the decision "is unlikely to be unanimous, with some members favoring a larger cut and others preferring to hold steady."

That turned out to be true. Stephen I. Miran, chair of the White House Council of Economic Advisers who was sworn in Tuesday as a Fed governor, voted against today's rate cut because he preferred a larger 0.50% cut, according to a FOMC statement.

Mortgage rates on decline before Fed meeting

The good news? Mortgage rates have fallen quickly in recent weeks, even before any Fed action. The 30-year, fixed-rate mortgage hit a new three-year low of 6.13% on Tuesday ahead of the Fed meeting, according to Mortgage News Daily.
The 30-year fixed rate averaged 6.35% as of Sept. 11, down 15 basis points from 6.50% the previous week, according to weekly data from Freddie Mac. That marked the largest weekly drop in the past year.

"Mortgage rates are headed in the right direction and homebuyers have noticed, as purchase applications reached the highest year-over-year growth rate in more than four years," said Sam Khater, Freddie Mac's chief economist.

Mortgage rates peaked around 7% earlier this year, so the recent dip is welcome news for homeowners with high rates and buyers who’ve been sidelined by affordability pressures. Still, rates remain well above the sub-3% levels seen during the pandemic.

But the recent drop stems from broader economic concerns rather than Fed policy. Kara Ng, senior economist at Zillow Home Loans, points to weakening employment data as a catalyst.

"Mortgage rates dropped sharply after the Bureau of Labor Statistics' August employment report, released on Sept. 5, raised fears of a rapidly weakening labor market," Ng said. "Job growth slowed significantly, prior months' gains were revised downward, and the unemployment rate held relatively stable only because people left the workforce."

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The market interpreted these signs as evidence the Fed would need to cut rates more aggressively to support the economy, prompting investors to drive mortgage rates lower in anticipation.

Falling Treasury bonds (not Fed rates) are driving mortgage rate slump

Here's the key point many borrowers don’t realize: mortgage rates don't typically track the Fed's federal funds rate. Instead, they follow the 10-year Treasury yield (currently at 4.05%) much more closely.

The federal funds rate affects short-term borrowing costs like credit cards and adjustable-rate loans. But mortgages are long-term debt, typically lasting seven to 10 years before borrowers refinance or move. That makes the 10-year Treasury note a better benchmark for pricing 30-year home loans.

Melissa Cohn, regional vice president with William Raveis Mortgage in New York, warns that falling rates often signal economic turbulence.

"Bond yields are falling, and mortgage rates are coming down," Cohn said, "but that's because the economy is in distress. We got some weaker economic data that showed the employment sector is weakening, and the bond market is basically saying, 'look, the economy is in a recession.'"

Historically, mortgage rates trade about 1 to 2 percentage points above the 10-year Treasury yield. Recently, that spread has widened to nearly 3 percentage points, meaning mortgage rates haven't benefited as much as they typically would from falling Treasury yields.

What this means for housing

Even modest rate relief could unlock a surge in housing activity. "Markets have swiftly priced in a more dovish Fed, with three rate cuts expected by year-end," Williamson said. "That shift has already pushed 10-year Treasury yields lower, pulling mortgage rates down with them."

The improvement in affordability, while modest, could be a huge help to borrowers grappling with high home prices and insurance premiums.

"Housing's sensitivity to rates means even small declines can unlock demand," Williamson explained. "If rates fall further, it could unlock additional demand — potentially fueling a pickup in both purchasing and refinancing activity."

Still, affordability and a lack of inventory in parts of the country might continue to hold buyers back. Market dynamics show "more sellers have come off the sidelines, especially in the first half of this year, but the buyer pool has not kept pace, leading to a high number of listings and price cuts,” Ng said. That might give buyers and homeowners who bought when rates were above 7% a window of opportunity to act and realize savings.

Who actually benefits from a Fed rate cut

If the Fed does cut rates Wednesday as everyone anticipates, certain types of borrowing will see more immediate relief:

Credit cards: These variable-rate products directly track the federal funds rate and typically adjust within one to two billing cycles. But with a 0.25% cut, the benefit to credit card APRs will be minimal. Consider transferring any high credit card balances to a 0% balance transfer card and pay down high-interest debt aggressively. Home equity lines of credit (HELOCs): Most HELOCs are tied to the prime rate, which moves in lockstep with Fed policy. HELOCs work like a credit card: you get a credit line drawn from a portion of your home's equity that you can use (and pay down) as needed for up to 10 years, in most instances. You pay interest only on the amount you use during that initial period before entering repayment. If you’re a current homeowner looking to tap some of your home equity for debt consolidation or home improvements, a federal funds rate cut will help lower your borrowing costs. Auto loans: While not directly tied to Fed rates, auto financing typically becomes cheaper when the central bank cuts rates. However, the Trump administration’s recent 25% tariff on most imported cars and certain auto parts (on top of a 2.5% base tariff on imported vehicles), is driving up the sticker price for vehicles. While borrowing costs might come down a bit, consumers in the market for a new car might not see much savings. Try shopping for a used vehicle instead or newer models from 2024 and 2025 that aren't impacted by the tariffs on new vehicles.

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