Bond market investors are keeping an eye on the latest dot plot, which shows that Fed policymakers expect to cut short-term interest rates by just 0.5 percentage points in 2025.
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Federal Reserve policymakers on Wednesday approved a third interest rate cut this year but laid out a conservative path for future easing, sending long-term mortgage rates higher on inflation concerns.
The vote was expected to cut the short-term federal funds rate by a quarter of a percentage point, but Cleveland Fed President Beth Hammack voted against it.
More importantly for investors in the bond markets that fund most mortgages, the latest dots indicate how much each Fed policymaker expects short-term interest rates to be in the coming years. The plot showed little enthusiasm for a rate cut in 2025.
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Federal Reserve Chairman Jerome Powell told reporters after the vote, “Today’s action takes interest rates a full 100% below their all-time high and significantly eases our policy stance.” “Therefore, we may be more cautious when considering further adjustments to policy rates.”
As Chairman Powell briefed reporters, the yield on the 10-year Treasury note, a benchmark for mortgage rates, rose by 11 basis points.
The 30-year fixed-rate mortgage rate rose 21 basis points to 7.13% on Wednesday, according to an index compiled by Mortgage News Daily.
The 30-year fixed rate conforming mortgage rate hit a 2024 low of 6.03% on Sept. 17 on expectations for a Fed rate cut, according to RateLock data tracked by Optimal Blue. But once the Fed began cutting rates, mortgage rates rebounded to a fourth-quarter high of 6.85% on Nov. 20.
Mike Fratantoni
“Expectations that the Fed will cut rates lower than expected have been priced into the market in the form of higher 10-year Treasury and mortgage rates in recent weeks,” Mike Fratantoni, chief economist at the Mortgage Bankers Association, said in a statement. “There is,” he said.
Fratantoni said the MBA’s mortgage rate outlook was “raised after the election in anticipation of this change and in recognition of the market reaction to the expected course of fiscal policy and the deficit.”
MBA economists expect mortgage rates to average near 6.5% over the next few years, with “significant fluctuations around that average.”
Fed’s ‘dot plot’ suggests cautious approach
Source: Federal Open Market Committee, December 18, 2024, Economic Forecast Summary
Most members of the Federal Open Market Committee expect the target federal funds rate to be between 3.75% and 4% by the end of next year, just 0.5 percentage point below current levels.
“The slower pace of rate cuts next year reflects both this year’s higher inflation statistics and expectations for higher inflation,” Powell said.
The latest dotplot also shows that Fed policymakers expect another rate cut of just 0.5 percentage point in 2026.
Fed policymakers see increased risks and uncertainty around inflation, but “we believe we are on track to continue lowering rates,” Powell said. “I don’t think the actual reductions we’ll see next year will be from what we wrote down today. We’ll respond based on the data.”
Fed lowers interest rates from 20-year high
After cutting short-term interest rates to zero to prevent an economic collapse during the pandemic, Fed policymakers pivoted to fighting inflation, raising the federal funds rate to 11% between March 2022 and July 2023. Raised twice.
Wednesday’s 25 basis point cut in the short-term federal funds rate was the third approval since Sept. 18, lowering the benchmark rate by 1 point between post-pandemic highs of 5.25% and 5.5%, and the highest since then. It becomes the standard. 2001.
“As the economy develops, monetary policy will be adjusted to best advance our goals of maximum employment and price stability,” Powell said. “Policy restraint could be tapered more slowly if the economy remains strong and inflation does not move towards 2%. If the labor market weakens unexpectedly or if inflation rises earlier than expected, Policies are well placed to deal with the risks and uncertainties they face in pursuing both sides of the dual mandate.
“Quantitative tightening” continues
To keep interest rates low during much of the pandemic, the Fed has been buying $80 billion in long-term Treasury bonds and $40 billion in mortgage-backed securities (MBS) each month, bringing its balance sheet to an unprecedented $8.5 trillion. It swelled up.
As concerns about inflation began to mount in 2022, the Fed reversed course and implemented “quantitative tightening.”
In an implementation note, the Fed said it would continue quantitative tightening at a reduced current pace, writing off up to $25 billion of maturing U.S. Treasuries and $35 billion of mortgage-backed securities (MBS) each month from its books. said it would be possible.
But with mortgage rates still so high that few homeowners have the incentive to refinance, the Fed’s passive approach to quantitative tightening will reduce MBS balance sheets by about $15 billion a month. All I can do is do what I do.
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