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Mortgage rates got a chance to fall again on Friday after the inflation metric improved in August, giving investors more hope that the Federal Reserve will continue to cut rates aggressively in November.
The personal consumption expenditures (PCE) price index, the Federal Reserve’s preferred measure of inflation, showed prices of goods and services rose 2.2 percent in August from a year earlier. That’s down from 2.5 percent in July, and shows inflation continues to move closer to the Fed’s 2 percent target.
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The yield on 10-year Treasurys, a barometer of mortgage rates, fell 5 basis points on Friday. Bond market investors are growing more confident that Fed policymakers will follow last week’s 50 basis point cut in short-term interest rates with a similar move on Nov. 7. A basis point is one hundredth of a percentage point.
Although Fed policymakers have made it clear they intend to continue lowering short-term rates this year and next, uncertainty over the pace and timing of those cuts has pushed mortgage rates higher.
Most economists expected the Fed to begin its rate-cutting campaign last week with a 25 basis point reduction in the federal funds rate. But the “strong inflation data” released Friday “underscores why the Fed was so confident” to start with stronger action, KPMG Americas Chief Economist Diane Swonk said in a statement.
The CME FedWatch tool, which tracks futures markets to calculate the likelihood of future Fed moves, on Friday put the odds of another 50 basis point cut in November at 57 percent, up from 49 percent on Thursday.
Inflation is nearing the Fed’s 2 percent target
Friday’s release of the PCE price index showed that from reaching a post-pandemic peak of 7.25 percent in June 2022, the annual inflation rate fell by a full 5 percent, to 2.24 percent.
Diane Swonk
“The improvement in inflation is more supportive than what we saw last year as the discount put downward pressure on many commodity prices,” Swonk said. “Everything from consumer pressure on price increases to production growth, a strong dollar and excess capacity abroad is keeping pressure on prices.”
Core PCE, which excludes food and energy costs, reached 5.65 percent in February. From the 2024 low of 2.63 percent in June, the core PCE rose in July and August, to 2.68 percent.
Pantheon Macroeconomics forecasters said recent declines in energy prices and transportation costs lead them to believe that core PCE inflation will slow to 2.5 percent in the final three months of 2024.
Since hitting a 2024 high of 7.27 percent on April 25, mortgage rates have been falling as bond market investors fund high-cost mortgages on expectations that the Fed will cut rates this year and next.
But while the central bank began cutting short-term rates last week, mortgage rates bounced back as investors digested the latest “dot plot,” which showed Fed policymakers envisioning a cautious pace of future tapering.
Mortgage rates on mortgages
After hitting a new 2024 low of 6.03 percent on Sept. 17, rate lock data tracked by Optimal Blue shows that rates for the 30-year fixed-rate mortgage rose 10 basis points, averaging 6.13 percent on Thursday.
Optimal Blue’s data is a day late, but average data tracked by Mortgage News Daily showed mortgage rates fell slightly on Friday. 30-year fixed-rate mortgage rates failed to match the decline in the 10-year Treasury yield, however, falling by just one percentage point.
To combat inflation, the Fed raised the federal funds rate 11 times from March 2022 to June 2023, bringing its short-term interest rate to between 5.25 percent and 5.5 percent — the highest level since 2001.
But in addition to keeping inflation in check, the Fed has a duty to use its monetary policy tools to help maintain full employment. Now that Fed policymakers are gaining confidence that they have inflation under control, they are focusing on lowering rates so the economy doesn’t shrink too quickly and destroy jobs.
The latest dot plot showed policymakers are considering cutting the federal funds rate by a total of 2 basis points this year and next, meaning 25 basis point cuts in November and December and several rate cuts of up to 1 percent in 2025.
But Pantheon forecasters think that if job growth continues to cool and unemployment continues to rise, the Fed will be forced to move quickly to avoid a recession. Pantheon predicts that next June, the federal funds rate will be 2.75 percent below the recent peak.
Forecast for mortgage rates below 6 in the spring
Source: Fannie Mae and Mortgage Bankers Association forecasts, September 2024.
Economists at Fannie Mae and the Mortgage Bankers Association predict 30-year fixed-rate mortgage rates will drop below 6 percent in the second quarter of 2025, just in time for the spring home-buying season.
In a Sept. 23 forecast, MBA economists said they expect 30-year fixed-rate mortgage rates to average 6.2 percent during the final three months of 2024, and decline to 5.8 percent in Q4 2025.
Fannie Mae economists in a September 10 forecast predicted that 30-year mortgage rates would be 6.1 percent in Q3 2024, and 5.7 percent in Q4 2025.
Another data release on Thursday showing the economy grew at an annual rate of 3 percent in the second quarter of 2024 put upward pressure on long-term interest rates.
But Thursday’s revised estimate of gross domestic product (GDP) also raised hopes that Fed easing will end the recession and help the economy reach a “soft landing.”
“Consumer spending has grown on the heels of the downgrade, which is the explanation for the soft landing,” Swonk said. “The strong inflation figures underscore why the Fed was so confident that inflation was approaching its target when it fell half a percentage point in September. At least another half percent of the cuts are expected by the end of the year. An unusually weak employment report for September could favor a sharp cut.”
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