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Mortgage rates fell for a second straight day on Friday after a survey showed manufacturing shrank for a 16th straight month in February, providing further evidence that the Federal Reserve can cut short-term interest rates without fueling inflation.
Another key inflation gauge, the personal consumption expenditures (PCE) price index, showed inflation continued to slow in January, in line with economists’ expectations, and mortgage rates fell five basis points on Thursday.
The Institute for Supply Management Manufacturing Purchasing Managers Index (PMI) released on Friday 47.8% in February, down 1.3 percentage points from January. A reading below 50% indicates manufacturing is shrinking.
Although Fed policymakers are determined to bring inflation back to their 2% target, keeping interest rates too high for too long could tip the economy into recession.
Oliver Allen
Oliver Allen, senior U.S. economist at Pantheon Macroeconomics, described the decline in the ISM manufacturing survey as “disappointing” but said “better times may be ahead” .
“We continue to expect manufacturing activity to begin to recover meaningfully in the coming months as lower long-term interest rates drive a modest pickup in domestic capital investment,” Allen said in a note to clients on Friday.
Key barometer for falling mortgage rates
The 10-year Treasury yield fell for a second day in a row on encouraging inflation data.Source: ICE Futures Yahoo Finance.
Produced in 10 Year Treasury Billusually a good indicator Mortgage rates fell 7 basis points on Friday to 4.18% following the release of the ISM manufacturing survey. This is down 17 basis points from the 2024 peak of 4.35% set on February 22, the highest level since November 30.
Maintained index Daily Mortgage News The 30-year fixed-rate mortgage rate fell 5 basis points to 7.10% on Thursday and another 2 basis points to 7.08% on Friday.
this CME Group Fed Watch ToolFutures markets, which track the likelihood of the Fed’s next move, show investors don’t expect the central bank to cut short-term interest rates until June. But on Friday, the probability that the Fed would cut interest rates one or more times before June 12 rose to 69% from 63% the day before.
The Fed has no direct control over long-term interest rates, such as mortgage and Treasury yields, which are determined by supply and investor demand.
But the Fed is also a participant in the U.S. Treasury and mortgage-backed securities markets, buying trillions of dollars of such investments during the pandemic and the previous recession of 2007-09 to lower interest rates. The Fed’s move to reduce its balance sheet, known as “quantitative tightening,” could prevent mortgage rates from falling significantly in the coming months.
Fed cuts balance sheet
Source: Federal Reserve System Board of Governors, Federal Reserve Bank of St. Louis
During the epidemic, the Federal Reserve purchased $80 billion in long-term Treasury bonds and $40 billion in mortgage-backed securities (MBS) each month. The central bank’s $120 billion per month of “quantitative easing” has helped push mortgage rates to historic lows and the Fed’s balance sheet to historic highs.
The Fed reversed course in the summer of 2022 after increasing its holdings of U.S. Treasuries and mortgage-backed securities to $8.5 trillion. To combat inflation, the Fed is now allowing up to $35 billion in maturing mortgage-backed securities and $60 billion in U.S. Treasuries to passively reduce its holdings of central bank bonds. A bank’s monthly balance sheet.
The Fed’s “quantitative tightening” means less demand for U.S. Treasuries and MBS, which may limit the magnitude and speed of declines in long-term interest rates.
In October, when mortgage rates surged to 2023 highs, real estate groups including the National Association of Realtors urged Fed policymakers to pause quantitative tightening. The groups believe that if the Fed maintains its current mortgage holdings, it will narrow the wide “spread” between the 10-year Treasury note and mortgage rates.
on January 31st Implementation NotesFed policymakers have said they intend to continue reducing the Fed’s balance sheet by $95 billion a month.
At Friday’s monetary policy forum, Fed governors Christopher Waller says Recent research suggests the Fed can continue its current pace of balance sheet reduction without harming the economy.
Christopher Waller
Waller told the 2024 U.S. Monetary Policy Forum in New York that demand for U.S. Treasuries is “broad and deep – and the buyers are not a small group of deep-pocketed, sophisticated investors, but the American public.” “So the speed of the runoff is not an issue.”
As of Thursday, the Fed still held $4.66 trillion in U.S. Treasuries and $2.4 trillion in mortgage loans on its books.
Waller said that while it would be difficult for the Fed to achieve its goal of reducing its holdings of MBS by $35 billion per month, he would like to see the Fed reduce its mortgage holdings to zero.
The Fed is not actively selling Treasuries or mortgage-backed securities—it is simply letting investments passively roll off its balance sheet by not replacing maturing assets.
“Institutional holdings of MBS have been slowly draining out of portfolios, most recently averaging about $15 billion monthly, as interest rates on underlying mortgages are very low and advances are small,” Waller said. “I think that continues It’s important to underweight these assets.”
In the latest forecast, Fannie Mae economists predict mortgage rates will fall back below 6% this year, but fall more slowly by 2025. In a Feb. 20 forecast, economists from the Mortgage Bankers Association predicted mortgage rates would not fall below 6% in 2024, but would fall sharply next year and by the fourth quarter of 2025. The average decrease is 5.5%.
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