Warning! Mortgage Rates Are Definitely Headed Higher

I have no idea what mortgage rates are going to do tomorrow, next week, or next month. But because of the significance of mortgage rates to the housing market, and therefore the overall economy, it's nevertheless worthwhile getting the lay of the land. And there are two important things to keep in mind with regard to mortgage rates, the first of which is that they've shot up considerably over the past few months.

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The catalyst, if you recall, was the Federal Reserve's announcement at the end of May that it could soon begin to taper its support for the economy.


The connection between the central bank and mortgage rates runs through the bond market. That is, the Fed will reduce its support for the economy by buying fewer mortgage-backed securities (which are bond-type instruments backed by mortgages). As it does so, the price for MBSes will decline, leading to a concomitant increase in their interest rates (bond prices and interest rates are inversely related).

This will then filter down to the collateral itself -- namely, mortgages.

The second point is that I don't think it's unreasonable to say that the Fed will indeed, at some point, embark on this course. But here's the catch: We have no idea when it will do so.

Most commentators who discuss this topic seem convinced it will happen at the Fed's upcoming meeting, scheduled to take place in the second week of September. But this is pure speculation. The same thing has been reiterated time and again over the past couple of months, yet the central bank has stayed put.

What you can bet on
The most that can be said is that once the Fed does pull the trigger, it will be only because the economy has shown robust signs of recovery. More specifically, it won't do so until unemployment is substantially lower.

With that in mind, one can't help concluding that higher mortgage rates would be almost categorically positive. And that goes beyond what it would mean for the economy in a general sense.

Take banks as an example. Lenders such as Bank of America , Wells Fargo , and JPMorgan Chase have been yearning for higher long-term interest rates to juice their bottom lines. All of these banks have seen their net interest margins contract by more than 50 basis points over the past year, with JPMorgan hit the worst. Consequently, a reversal of this trend would be a welcome relief to both executives and investors alike. 

And the same can be said of homebuilders such as Hovnanian and Toll Brothers. While higher rates may crimp their customers on the margin, the broader population of people will be in a better position to purchase new homes in the face of lower unemployment. It's worth noting, moreover, that a pickup at companies like these would provide an additional stimulant to the economy, as it's estimated that between two and three jobs are created for every home that's built.

The bottom line is that, yes, mortgage rates will probably go higher. The catch is that nobody knows when. It could be days, weeks, months, years, or even decades before that happens. But when it does, it's important to keep in mind that the move is a positive sign and not a negative one.

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The article Warning! Mortgage Rates Are Definitely Headed Higher originally appeared on Fool.com.

John Maxfield owns shares of Bank of America. The Motley Fool recommends Bank of America and Wells Fargo and owns shares of Bank of America, JPMorgan Chase, and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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