Current mortgage rates are more than half a percent higher than
they were at the beginning of May, and
threatening to move higher
. Could this be the beginning of the end for ultralow mortgage
To calculate where rates could be headed, the analysis below
digs into some historical figures -- and reaches a projection that
could startle prospective home buyers and refinance candidates.
How high will mortgage rates go?
Rather than looking at possible extreme outcomes, this model
uses one very conservative assumption: that inflation will remain
as moderate as it has been over the past five years.
Mortgage lenders choose interest rates that they hope will earn
them a premium over inflation. That premium has to cover their
expenses and default risk, and if all goes well, earn them a
profit. Over the past 40 years, rates on 30-year mortgages have
averaged 8.68 percent. With inflation averaging 4.27 percent a year
over the same period, this means mortgage lenders have charged an
average premium over inflation of 4.41 percent.
Fortunately, inflation has been much more tame in recent years
than over most of the past 40 years. Over the past five years,
inflation has averaged just 1.6 percent annually. Assuming
inflation remains under control, applying the long-term average
premium for a 30-year mortgage rate to the current inflation rate
would yield a "normal" mortgage rate of 6.01 percent.
Why are current mortgage rates so far below that? Much of it has
to do with the
Federal Reserve's efforts to reduce interest
. If that's been a key factor in keeping mortgage rates below
normal levels, then the end of that intervention might trigger a
return to a more normal premium over inflation.
When will it happen?
The Fed has said that it will likely
start adjusting its current interventions
when the unemployment rate gets down to 6.5 percent. So how quickly
might unemployment get from its current 7.6 percent level to 6.5
At the current rate of growth for the labor force and job
market, it would take another 14.2 months before the unemployment
rate gets down to 6.5 percent. Right now, that's the most likely
estimate for how long the current Fed policies will continue. Even
if job growth starts to accelerate, it will still probably be
months before unemployment gets down to 6.5 percent.
So why are mortgage rates moving higher already? It's because
markets tend to anticipate events. In this case, mortgage lenders
don't want to get stuck with sub-standard mortgage rates for 30
years, so they have already started to protect themselves by
In other words, mortgage rates are getting a jump on a possible
change in monetary policy by starting to anticipate the impact of
that change. If you've been considering buying a house or
, you might take a cue from the market and anticipate that rates
could move much higher over the next year.