You could be forgiven for wondering how mortgage interest rates are determined. The rate borrowers pay to finance their homes fluctuates by quite a bit, and on fairly short timescales, making it hard to even track the ups and downs of the common bank rates.
Making it harder is the large number of factors that seem to go into rate calculations, and the apparent lack of connection between what the announced rates are and the number a banker quotes you when you actually apply for a mortgage.
Despite appearances, the formula for setting the mortgage rate isn’t actually a secret, and knowing how it works can potentially save you money when you’re shopping around for a loan.
How Does Mortgage Interest Work?
Interest on a mortgage works just like the interest on any other kind of debt. You need to borrow money here and now to buy a house, your lender agrees to trust you to make the payments for a set term and the interest rate is whatever you pay above the borrowed amount to make this a good investment for the lender. The rate you agree to pay is almost always compound interest, with a small fraction of the total owed added to the loan each month as an extra bit you have to pay to keep current.
Factors That Affect Mortgage Rates
You may have noticed that the rates people get quoted tend to vary from day to day, and from person to person. This is because lenders are trying to zero in on a moving target and offer the most competitive rates they can within a shifting framework. To understand how the banks set the mortgage interest rate, you have to know about a group called the Federal Open Market Committee (FOMC).
The FOMC is a group of 12 bankers from the nation’s Federal Reserve banks. Every six weeks, they meet somewhere and negotiate something called the Fed rate, or the overnight rate. This is the interest banks charge each other for overnight borrowing, as banks with a lot of cash on hand lend to those running a deficit at the close of business each day. When economic growth is slow and inflation is not a concern, the rate tends to be very low, as it was in early 2022, when the Fed rate was 0%. By the end of 2022, however, to combat inflation, the FOMC had raised rates to 4.5%.
This rate doesn’t directly control the interest you pay on a mortgage, but it does make borrowing more or less expensive for banks, which affects all the credit they offer to customers downstream. If the Fed rate rises, it’s likely that all kinds of consumer debts, including mortgages, will also rise, usually as a factor of the Fed rate plus a few extra percentage points.
Why is the Interest Rate on a Home Equity Loan Different?
The interest rate on a home equity loan varies just like other mortgage rates, but it tends to be higher than the standard fixed-rate home mortgages charge. This is because home equity loans, including Achieve’s home equity loans, tend to be more risky than first mortgages, though the money borrowed is still secured by the equity in your house.
Because the loan is secured this way, your rate will still probably be lower than lenders charge for more risky debt, like credit cards and student loans.
Getting the Best Interest Rate You Can Find
Regardless of how mortgage interest rates are determined, you still want to get the best rate you can. Take the time you need to shop around for a good rate and don’t be shy about asking your lender what you can do to keep your rates low. Whatever is going on in the FOMC meetings, your own credit score and history of repayments will probably do more to determine your final rate than outside factors can.