If you need to take out a mortgage to purchase a house, the rate you get makes a major difference in how much you ultimately pay over time. Even just a percentage-point contrast can mean shelling out hundreds more per month on your mortgage payment. Understanding what factors influence your mortgage — and which of those you have some control over — can go a long way toward helping you secure a better rate.
What broader economic and market factors shape mortgage rates?
The “overall level of mortgage rates is set by market forces,” with rates moving “up and down daily, based on the current and expected rates of inflation, unemployment and other economic indicators,” said NerdWallet. In particular, the following has a bearing:
The overall economy. The broader economy, particularly factors like inflation and unemployment, has a sizable influence on mortgage rates. As a general rule of thumb, “mortgage rates tend to fall when the economy is slowing down, inflation is falling and the unemployment rate is rising,” said NerdWallet.
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10-year Treasury yields. This yield “helps to show market trends in interest rates,” said Investopedia. “If the bond yield rises, mortgage rates typically rise as well,” and “the inverse is the same.”
Demand for mortgage-backed securities (MBS). Mortgage rates “change based on demand for MBS within the bond market,” which are effectively bundles of mortgages that lenders sell to government-backed entities, said Rocket Mortgage. “If more people are flocking to bonds,” which tends to happen more during periods of economic uncertainty, the yield “doesn’t have to be as high and mortgage rates are lower.”
The Federal Reserve. While the Federal Reserve itself does not set mortgage rates, the “biggest single factor that determines mortgage rates and all other borrowing rates in the U.S. is the Federal Reserve’s decision on the rates it charges banks in order to maintain the stability of the system,” said Investopedia.
What are the borrower-specific factors that influence mortgage rates?
While many of the forces shaping mortgage rates are out of borrowers’ control, there are still quite a few exceptions. That’s because lenders also evaluate the risk of lending to a specific individual when issuing a loan.
To make this determination, lenders look at factors like:
Credit score. A higher credit score almost always translates to a lower rate, as creditworthy borrowers present a lower risk to lenders.
Loan-to-value ratio. Your LTV ratio “compares the amount you’re borrowing with the price of the home,” said Bankrate. The “larger your down payment, the lower your LTV ratio and, generally, the lower your rate.”
Debt-to-income ratio. If you have a low ratio, “meaning the percentage of your income that goes toward monthly debt payments is low, it could result in a lower rate,” said Experian.
Loan term. The shorter your loan term, the “lower your mortgage rate is likely to be,” said Rocket Mortgage.
Property type. You can expect to pay a lower rate for a mortgage for a primary residence as opposed to a vacation or investment property. The idea is that if you “ever get into financial trouble, you’re more likely to prioritize the payment on the home you live in most of the time," said Rocket Mortgage, making a mortgage on a primary residence less of a risk in the eyes of the lender.
