Fed makes 25-point hike in February. Will mortgage rates rise?

A reduced rate hike

The Federal Reserve wrapped up its first meeting of 2023 with the smallest hike since deploying its inflation-busting plan in 2022.

The central bank made a 25-basis point (0.25%) hike to the federal funds rate in February, following four 75-point (0.75%) hikes and December’s 50-pointer (0.5%).

With inflation gradually decreasing, the Fed adjusted its policy accordingly as many experts anticipated with a scaled-down action. However, more hikes are likely on the way as the inflation rate still stands nearly three times higher than the ideal range.

The Fed’s role and February’s FOMC meeting

The Fed technically doesn’t set mortgage interest rates. Instead, mortgage rates intrinsically correlate with the central bank’s policy actions.

At the conclusion of its Feb. 1 Federal Open Market Committee (FOMC) meeting, the Fed announced a 25-basis point (0.25%) target range increase to the federal funds rate. The central bank noted in a press release that it will continue monitoring factors around the economic outlook and “would be prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee’s goals.”

The FOMC’s goal is to bring the long-term average annual rate of inflation to 2%. After spiking to a 41-year high of 9.1% in June, inflation slowly descended each subsequent month and reached 6.5% in December, according to the Bureau of Labor Statistics.

The FOMC also stated it anticipates similar ongoing increases to the fed funds target range until inflation returns to its 2% objective.

How will mortgage rates react?

The reduced hike should come with little surprise around the mortgage industry. Now, borrowers will see how lenders respond or if they preemptively baked the hike into their rates.

The day following the FOMC’s last two 75-basis point hikes, the average 30-year fixed-rate mortgage (FRM) jumped 27 basis points (0.27%) in September but dropped 13 basis points (0.13%) in November, according to Freddie Mac. After December’s 50-basis point hike, the 30-year FRM inched down two basis points (0.02%).

In the seven weeks between FOMC meetings, the average 30-year FRM dipped from 6.31% to 6.13%. Further, the Fed will continue to run off its balance sheet of Treasury holdings and mortgage-backed securities (MBS). These actions typically put upward pressure on interest rates.

“Investors are betting that the economic slowdown and the Fed’s eventual victory over inflation will result in lower rates over time. Mortgage Bankers Association (MBA) is still forecasting a modest drop in mortgage rates through 2023, ending closer to 5% rather than the 6% we have today,” said Mike Fratantoni, MBA chief economist.

What the Fed rate hike means for mortgage rates

The FOMC’s latest decision should help interest rates continue their downward trend. However, more fed rate hikes are likely on the way until inflation gets under control.

Many signs point to the U.S. entering a recession in 2023 and mortgage rates to decline overall. But it should be noted that interest rates are notoriously volatile and the last few years proved how unexpected their growth can be.

Locking in a mortgage could be a great way to start building equity in your home and adding to your personal wealth. Of course, you can always refinance if they continue coming down.

The next FOMC meeting comes on Mar. 21-22, 2023, so the best time to take out a mortgage or refinance could be now.