The Federal Open Market Committee, a component of the Federal Reserve System, concluded a two day meeting in January.  The outcome of the meeting was that the Fed will keep their target rate near 0% and they will end the purchase of mortgage-backed securities on March 31, 2010.

First, let’s get one misconception out of the way. The Federal funds rate does not mean that mortgage rates will be near 0%. The federal funds rate and mortgage rates are not directly related.  The federal funds rate is meant to control economic growth.  Mortgage rates are driven by the price of mortgage-backed securities. If the two were proportionate than the spread between the two rates would be linear over the years,  However the spread between the two rates has varied significantly over the years .  So, keep in mind that these two rates move independently and that the federal funds rate does influence mortgage rates in the sense that the supply and demand of mortgage-backed securities is affected by economic growth.

More significant is that the interest rates could rise after the Fed pulls out of the purchase of their $1.25 trillion of mortgage-backed securities.  That’s right, $1.25 trillion!!  There are really two schools of though with regard to the impact on the housing market.  Optimists will tell you that investors searching for higher-yielding securities will find the government-backed mortgage-backed securities a bargain given alternative investments.  Pessimists say that the end of this program will cause interest rats to rise a full percentage point, which could take 30-year conforming rates up to 6% (from 5%, right where rates were before the Fed began this program).  In the coming weeks we should have some indication on how the end of the Fed purchases will affect interest rates since thy have already slowed its average weekly net purchases of the mortgage-backed securities from $21 billions to about $12 billion.

Many thanks to Mark Westcott of Corridor Mortgage Group for providing this post.