The Federal Reserve is all set to raise interest rates for the first time in more than eight years when it meets for one last time this year on December 16. The last federal fund rate hike happened in 2006. The Fed has kept interest rates near zero since Dec 2008.
With the U.S. economy now on a more solid footing and inflation slowly starting to creep back toward the two percent target rate, a hike feels inevitable.
Strong October/November employment numbers, declining unemployment rates and decent consumer confidence have fueled the chances of an imminent lift-off. This has also been confirmed openly by some Fed officials. However, a group of investors still believe that a rate hike will simply not happen while another group of analysts expect the Fed to wait until March.
Fed Rate Hike & Homebuilding Stocks
As far as we’re concerned at the moment is the possible impact a Fed rate hike will have on homebuilding companies like Lennar Corp. LEN, D.R. Horton, Inc. DHI, Toll Brothers, Inc. TOL, PulteGroup, Inc. PHM, Meritage Homes Corp. MTH, KB Home KBH, and many others.
A hike in the federal fund rate would probably push mortgage interest rates up with it. High mortgage rates dilute demand for new homes, as mortgage loans become expensive. This lowers a buyer’s purchasing power and can hurt homebuilders’ volumes, revenues and profits.
Mortgage rates have also been at historical lows since 2008. Homebuilders have largely benefited from these low mortgage rates that led to a sharp spike in home buying since 2012.
This has specifically been a good year for the housing market, possibly the best since 2007 when the housing recession had set in. In case mortgage rates rise with an interest rate hike this December, we believe they should still be reasonable, keeping housing affordable. Moreover, the Federal Reserve Chair Janet Yellen has emphasized that even if a rate hike comes at their latest policy meet, the pace will be slow and gradual given the concerns of tepid global economic growth.
Slightly higher rates notwithstanding, an improving economy, job and wage growth, moderating home price gains, rising rentals, rapidly rising household formation and a limited supply of inventory should keep the housing market momentum alive in 2016.
On the other hand, a group of analysts believe that as the global economic situation deteriorates, U.S. mortgage rates might well nigh drop. As non-U.S. economies weaken, investors would park their funds in a much safer U.S. economy – a key factor which has been driving up the U.S. dollar for the past few months.
Meanwhile, mortgage rates are based on the price of mortgage-backed securities and such bonds are U.S. dollar-denominated. Therefore, when the U.S. dollar becomes strong, the value of mortgage bonds also rises. Rising prices for these mortgage bonds result in lower interest rates.
As the U.S. dollar strengthens and global uncertainties loom, mortgage interest rates come down – this explains the fall in mortgage rates this year. According to the Freddie Mac mortgage survey, the 30-year fixed mortgage was 3.94% in Nov 2015, less than 4% a year ago.
In case the Fed does raise interest rates this month or even later, there at least seems to be no sign of an immediate improvement in global economic health. This will keep mortgage rates relatively low. Homebuilders therefore need to fear little about the housing momentum losing steam in the near term.
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