Mortgage borrowers, don't fear a Fed rate hike

It may seem counterintuitive, but when the Federal Reserve finally gets around to raising interest rates, the impact on mortgage rates should be negligible. After all, the last time the Fed was hiking, from mid-2004 to mid-2006, mortgage rates rose only a small amount, half a percentage point.

Federal Reserve Chair Janet Yellen has signaled that the central bank plans to soon boost the federal funds rate -- which banks charge each other to lend funds -- likely at its next meeting in December. After that, she has indicated that the Fed will increase the fed funds rate only gradually, perhaps a quarter-point at a time.

A higher fed funds rate, now near zero percent, will have an immediate effect on other shorter-term rates, like those for credit cards and auto loans.

But few borrowers realize that the Fed's impact on longer-term rates, such as those for home mortgages, is muted to nil. In fact, "15- and 30-year mortgage rates could as easily go down as up," said Jason Lina, lead advisor at Resource Planning Group in Atlanta.

That's because influences ranging from economic growth to inflation affect longer-term rates more than the Fed's machinations on the short end of the spectrum. Such forces should keep the rate for a 30-year home loan from escalating much. It's now near historic lows, just under 4 percent, Bankrate statistics indicate.

Let's look at what happened during the two-year span ending in summer 2006 when the Fed, then under Alan Greenspan, pushed the fed funds rate from 1 percent to 5.25 percent, concerned that easy money was fueling the housing craze. The average rate for a 30-year mortgage was 6.3 percent in mid-2004, and two years later it ended up at 6.7 percent, barely a half-point higher.

What was going on? Inflation was tame, circling around 3 percent yearly, so that wasn't a factor. But economic growth, while robust, was on a downtrend. Gross domestic product growth slipped to 5.1 percent in 2006 from 6.3 percent in 2004, anticipating the recession that began in late 2007.

If anything, mortgage rates are tied more closely to the 10-year U.S. Treasury note, which serves as the benchmark for long-term obligations. This makes sense: According to a survey by the National Association of Home Builders (NAHB), the average single-family home buyer stays put for 13 years before selling. That's pretty close to the maturity of the Treasury note.

A Babson College study identifies a close correlation between rising 10-year Treasury yields and 15-year mortgage rates. This research, which encompasses 1999 through 2013, finds that when the Treasury's yield moves up by 1 percentage point, the mortgage rate rises 0.99 point.

Treasury bonds' special status has attracted investor interest, at the expense of riskier assets, like stocks. Tellingly, the 10-year Treasury yield slipped last year, and in 2015 has stayed in a range from 2 percent to 2.5 percent (it's now around 2.3 percent). People have piled into Treasury bonds, viewed as the safest investment going, thus bidding up their prices and keeping yields down (remember that prices and yields move in opposite directions).

Nevertheless, to many, a Fed-driven increase in short-term rates must necessarily translate to higher home loan rates. In a recent Fannie Mae survey, just over half of those polled expect higher rates over the next 12 months.

To be sure, expectations of higher mortgage rates, even if the increases are tepid, are reasonable. Unlike the middle of the last decade, which ended in the housing collapse and the financial crisis, the current economy appears to be gathering strength, with the GDP advancing at around 2 percent.

The recent payroll report was encouraging, and unemployment is down to 5 percent. Higher interest rates, including those for home purchases, "signal an improvement in the economy," said Sterling Raskie, an advisor with Blankenship Financial Planning in New Berlin, Illinois.

That's why the NAHB projects that the 30-year mortgage will hit 4.5 percent next year and 5.5 percent in 2017. While the 30-year loan is by far the most popular, adjustable-rate mortgages, whose rates are tied to short-term debt, are sure to rise faster.

Regardless, rates in general are so low nowadays that any lift in mortgage costs should be incremental -- and bearable.