Lower Home Equity Loan Rates On The Way

[Oct 28, 2008.]

 

Today marked the beginning of a 2-day meeting of the Federal Reserve. It is widely expected that the Fed will drop the federal funds rate again on the heels of an emergency rate cut of a half-percentage point to 1.5% back on October 8th.

Most experts believe that the Fed will announce another half-percentage point cut tomorrow bringing the fed funds rate down to 1% - a rate not seen in over 4 years.

According to a CNN.com article, "the fed funds futures on the Chicago Board of Trade are now pricing in a 26% chance that the Fed will cut rates by three-quarters of a percentage point to 0.75% by that meeting."

The federal funds rate is the interest rate at which a depository institution (i.e. bank) lends balances available at the Federal Reserve to another depository institution.

Why drop rates?

By lowering rates and the cost of borrowing money, the Federal Reserve hopes that businesses and consumers will be enticed to begin spending money. While many experts view a rate cut as nothing more than a psychological necessity at this point, any inaction by the Federal Reserve could cause further problems.

Good News For Home Equity Lines of Credit

Home equity lines of credit are based on the Prime Rate, which originally referred to the rate at which banks lent money to their most favored customers. The prime rate is approximately 3.0% (300 basis points) above the federal funds rate.

When the Federal Reserve lowers the fed funds rate, the prime rate follows.

So, if someone had borrowed $10,000 on a home equity line of credit and they were paying a rate of Prime + 1% (currently 4.5%), they would be paying $450 in interest per year.

If the Federal Reserve reduces the fed funds rate by a half-percentage point tomorrow, that home equity line of credit would drop to 4% and $400 in interest per year.

 

About Author:

Chris Rocks is the Regional Director of the National Credit Federation (NCF), a consumer advocacy group that assists small business owners and consumers overcome debt and credit challenges.