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Stock Markets and Mortgage Rates

Posted May 18, 2009 by Kate Dickman

How the complex world of stocks influences the fees you pay in your loan.

How does the stock market affect mortgage rates in the market?

For starters, it’s best to remember that mortgage rates are not affected by a single factor only. Inflation, investor confidence, Federal Reserve rate cuts and other economic determinants influence rates albeit indirectly. Also, market intervention can be created to bring down the rate below 5 percent like today’s massive Treasury buying of mortgage bonds.

Fannie Mae and Freddie Mac purchase loans from lenders and they issue these loans to investors in order to stabilize the secondary mortgage market. These loans are backed by mortgages. Now, the forces of demand and supply on the bonds will work to determine the rate. But investors do not concentrate on a single financial instrument only so their demand is affected by other factors too. Josh Stamplfi commented on the importance of portfolio diversification in the forum “The Future of the Stock Market”, “That’s why diversity is the one free lunch on Wall Street. You want to diversify your holdings if you can, because if you only own one stock, well, it might double, but it also might get cut in half or even go to zero. Individuals don’t like to face that kind of risk on their holdings.” Therefore, the complex system of the market where other financial products in investors’ portfolio can have an indirect effect on mortgage rates too.

The stock market puts an influence in mortgage rates when investors decide on how much risk to take. Since investors have to diversify their holdings, they can choose to hold more stocks (high risk, high returns) or government bonds (low risk, low returns). So when the stock market is bullish, bond prices go down causing mortgage rates to rise because investors are turning away from bonds and so the low demand would push down the prices. Bond yields will rise in order to attract back the investors into buying back these bonds. When this happens, mortgage rates will also move up. On the other hand, if the stock market goes down, bond prices will rise because of increased demand and so mortgage rates will then fall.

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