Don't Get Comfortable - Mortgage Rates Could Very Well Rise in 2024

[Scott Trench]

Mortgage rates are about 6.9% right now, and have been trending downwards for 2H 2023. 

There's a poll going on in these forums, and most of you believe that mortgage rates will decrease in 2024. 

I'm not betting on it.  While the Fed has signalled that it will cut rates three times in 2024, and I believe them, any projections for what will happen after that are a coin flip. 

There's are plenty of good reasons to believe that there will be a nasty (er?) recession, and every reason to believe that the Fed will get their "soft landing" as they define it. One might result in rates dropping quickly. The other might not. 

Right now, the yield curve is still inverted, and it has been close to flat or inverted for nearly two years. It's the longest inversion since 1980. That's important. 

Normally, the 10-year treasury is ~150 bps higher than the Federal funds rate - currently about 5.3%. That implies a 10-year treasury rate of 6.8%, vs the current 3.95%. 

If the Fed lowers rates, as widely anticipated, in 3 times 2024, by 25 bps each, perhaps with one 50 bps decrease if we are being optimistic, the federal funds rate will drop to 4.3%-4.6%. 

In a normalized yield curve environment, with a 150 bps spread between the 10 year and the federal funds rate, that puts your 10-year at 5.8% - 6.1%. There is no historical reason why this can't happen, despite the hammering on by certain folks about how 2024 is an election year, and how the US Federal Debt can't handle interest rates being held this high. Those are points, but in my opinion, secondary and irrelevant to the Fed's charter of controlling inflation.

And, if rates stabilize and the economy doesn't crash or change much from where it is today, I think it could very well happen. 

Why all this talk about treasuries and the yield curve? Well, because mortgage rates typically run at a spread with the 10 year treasury - again, about 150 bps. Right now, that spread is unusually high - about 280 bps. Probably because the mortgage industry agrees with my analysis above. 

In 2024, I think that the most probable outcome is this: 

- The Federal Funds Rate drops to ~4.5%. The 10-year treasury approaches, but does not quite hit, 6%. 

Mortgage rates normalize to the 150 bps+ the 10-year treasury, approaching, but not quite hitting 7.5%. 

Anyways, that's my complicated logic. It changes little for investors and homebuyers. It's a modest increase from where we are today, and the headline from my analysis is that it's likely that mortgage rates could climb a little, but will likely stay close to flat. 

My analysis is probably wrong and there are plenty of ways that it can go in 2024. Would love thoughts and feedback, and of course completely agree in advance with the inevitable feedback about the futility of trying to predict interest rates in the first place. 

[JD Martin]

Rates are definitely coming down and significantly. I don't know how long that's going to take but it's going to happen, really because it's the only short-term solution for the wildfire that's going to happen if they don't come down.

- Residential real estate SFH market is frozen solid. No inventory because no one can/will give up their existing rates, no sales because no one can afford high prices and high(er) rates.

- Ancillary businesses to real estate market, especially SFHs, are getting hammered. Realtors, lenders, furniture sellers. Virtually every market related to the movement of housing has had significant layoffs in the past two years. 

- MFH adjustable notes, which comprises a good proportion of all MFH lending, is getting ready to reset. Remember 2007 when individual SFH ARMs started resetting? This will be a tidal wave of defaults because most of these apartment dwellers are already maxing out on rent at 40-50% of their pay. There's nowhere to raise rents to in order to make up the difference. And there's no getting out when you're already dealing with rock bottom cap rates. Who is going to be willing to accept such paltry returns when you can go get US backed issues in the 5% range?

- REITs and other similar investments, same issue except they will be screwing their banks AND their investors. Already some well-known ones have paused or cancelled dividends or issued capital calls for large property tax increases, deferred capex they thought they would avoid by selling out before it hit, and so forth. There is a real risk that you'll see private unregulated REITs failing altogether. 

Bottom line is cheap, easy money for so long has created a massive addiction. We shouldn't pretend there won't be a vicious withdrawal. I personally don't think the Fed will allow the withdrawal to happen, because it will be ugly, painful, and destabilizing. I'm willing to bet they'd rather give us another little shot of money smack and try to wean us off more gradually. They completely crapped the bed when they panicked and dropped rates to nothing at the beginning of COVID, when rates were already plenty low, and they created even more junkies than existed at that point. Now they're either going to have to try to wean us back to sobriety gradually or allow the detox to begin.