Decoding the Impact of Lower Mortgage Rates on Home Buying

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Lower mortgage rates are almost certainly coming, but lower than what? And will they be low enough? Read on to learn about the near future for home buyers. [[{“value”:”

With the Federal Reserve Board’s recent reduction in the federal funds rate, the expectation is that mortgage rates will follow sooner rather than later. Although the two aren’t directly connected, mortgage rates do tend to follow the federal funds rate — eventually. With more cuts almost certainly in the near future, it’s time to consider what comes next, especially if you’re trying to buy a house in this intense housing market.

There are a few impacts of lower mortgage rates that are likely, and one that is not, so let’s go through them all.

1. More people will likely get back into the market, at least at first

According to economists across the board and recent surveys, some significant number of would-be home buyers have been staying on the sidelines and waiting for interest rates to drop so they can increase their buying power. One survey says up to two-thirds of potential buyers may be waiting, and another says that 40% of potential home buyers who are sidelined haven’t even met with a lender yet to get pre-approved.

If you’re one of them, take a look at this list of our recommended mortgage lenders — you might just find your mortgage match among them.

As many as a third of potential buyers report that they believe an interest rate of 6.0% will entice them to try to buy a house. Another 36% would do so at a rate of 5.5%. We’re not that far from the first, and the second will likely appear by the middle of next year. That’s a lot of new buyers.

2. Home prices will likely rise further

I know that seemingly everyone is declaring that there are so many more listings on the market right now, but it’s not a whole truth without context. Yes, total listings were up almost 14% year-over-year in September. But this is still about three months of inventory, which is half of what you need to have a balanced real estate market. And historically speaking, the 1.78 million listings reported by Redfin are well below the highs of over 2.275 million in September 2019, which was still anemic.

Freddie Mac estimates that we still have a 1.5 million–unit shortage as of Q1 2024, despite home builders’ best efforts to catch up from decades of shortfalls now that demand is higher for new construction.

The basic economic forces of supply and demand drive the real estate market, which means that prices aren’t going to get lower if rates go down. In fact, as rates drop, housing prices are likely to rise again because there’s going to be more demand from more buyers and relatively less to buy with the increased number of buyers in the market.

That doesn’t even consider all the homes that were destroyed in the most recent hurricanes that will generate further demand as insurance payments are doled out.

3. Existing homeowners are unlikely to sell their homes

The one hope that a lot of people are clinging to is that homeowners with low interest rates will finally be tempted to venture into the market as rates drop. But those people likely don’t truly understand what it will take for those homeowners to do that. Short of personal crises, homeowners aren’t better off selling their homes, and few will voluntarily take the massive punch to their pocketbooks for a slightly larger lot or to be five minutes closer to work.

As of Q2 2024, 18.4% of homeowners had mortgage rates in the 4% range, 34.6% had mortgage rates in the 3% range, and 21.6% had rates under 3%. That’s a whopping 75% of mortgage-holding homeowners and a lot of houses that are tied up for a while yet. It would take a lot to get them back in the market.

In a lot of cases, it’s still going to be cheaper for them to tap their equity with a home equity line of credit (HELOC) or a second mortgage to build on to their existing home than it would be to buy another home — and a heck of a lot easier given the state of the market.

Hold on to hope, but ground yourself in reality well into 2025

We all hope that lower mortgage rates on the horizon will open up the real estate market to a healthy balance, but the truth is that we’re not there yet. We’re not even close.

Even after the most recent Fed rate drop, the average 30-year fixed rate mortgage went up to 6.44% (as of Oct. 17, 2024). The market had already priced that Fed rate drop in, and when it happened, the needle didn’t move.

It won’t always be like this, and you certainly should continue to check mortgage rates, but we’re a ways away from the chill markets of the past. The impact of lower rates on home buying — for now, anyway — is going to be minimal at very best. Next summer may be a different story, but that will depend on just how deeply the Fed cuts rates between now and then.

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