Assessing the Structural Limits on U.S. Mortgage Rate Declines

The immediate catalyst for the recent housing market shift is a sharp drop in mortgage rates. As of January 15, the 30-year fixed-rate mortgage averaged 6.06%, its lowest level in over three years. This move, down from 6.16% the prior week and a full 98 basis points from the 7.04% average a year ago, has already sparked a tangible response, with purchase and refinance applications jumping. The decline is rooted in falling Treasury yields, the benchmark for mortgage pricing.

Yet this market-driven easing is being overtaken by an unprecedented policy intervention. President Trump has directed Fannie Mae and Freddie Mac to purchase $200 billion in agency mortgage-backed securities (MBS). This executive action, announced last week, is a direct attempt to lower rates by up to a quarter percentage point. It sidesteps the Federal Reserve, which the administration views as not easing aggressively enough, and blurs the traditional lines between fiscal and monetary policy.

The move is a significant expansion of the government-sponsored enterprises' (GSEs) role. Fannie and Freddie, still under federal conservatorship, were never designed to function as alternative monetary authorities. Their balance sheets are modest by comparison; each holds roughly $124 billion in mortgage assets. Adding $100 billion to each portfolio would represent a major, untested shift. Analysts note that while the Federal Reserve's $1.3 trillion MBS purchases during the pandemic were estimated to lower mortgage rates by about 40 basis points, a proportional effect from this $200 billion GSE program would be much smaller-likely in the range of 6 basis points. The directive's primary impact may be more symbolic, signaling a new era of executive influence in housing finance.

The Structural Floor: Treasury Yields and the Mortgage Spread

The recent decline in mortgage rates is a story of two moving parts: the yield on the 10-year Treasury and the risk premium that sits on top of it. For rates to fall further, both must move lower, but the Treasury yield sets a fundamental floor that is not easily breached.

The 10-year Treasury yield, the benchmark for long-term interest rates, has been volatile but remains elevated. It has broken out of its recent trading range, ending the week at higher levels. This yield reflects the broader cost of capital for the U.S. government and is heavily influenced by inflation expectations and the Federal Reserve's policy stance. While the yield has softened from its peaks, it is still far above the historically low levels seen in the pandemic era. This means the base cost of financing is structurally higher than it was just a few years ago.

The more immediate variable for mortgage rates is the "spread" between the 10-year Treasury and the 30-year fixed mortgage. This spread is the market's compensation for the specific risks of mortgage-backed securities (MBS), including prepayment risk, liquidity, and the perceived credit quality of the GSEs. It is not a fixed number; it fluctuates with market sentiment and policy actions. As noted, this spread typically stood at 1.5 to 2 percentage points before the pandemic but widened to as much as 3 percentage points during the inflation surge of 2021 and 2022.

The recent policy intervention has already compressed this spread. President Trump's directive for Fannie Mae and Freddie Mac to purchase $200 billion in MBS has increased demand for these securities, pushing their prices up and yields down. This action has narrowed the gap between the Treasury yield and the mortgage rate, contributing to the recent drop. However, this compression has limits. The spread is sensitive to liquidity conditions and investor appetite for mortgage risk. With the GSEs' balance sheets modest, their ability to absorb more MBS is constrained. Furthermore, the spread remains a function of market perception of GSE credit risk, which is not eliminated by a directive from the White House.

The bottom line is that mortgage rates cannot fall below the 10-year Treasury yield by more than the market deems an appropriate risk premium. With Treasury yields still elevated and the spread having already tightened significantly, the path for further declines is narrowing. The structural floor is being set by the Treasury market's resilience, while the spread's ability to compress further is being tested by the scale and novelty of the policy push.

Forward-Looking Scenarios and Market Implications

The path ahead for mortgage rates and housing activity is one of constrained relief. Bankrate's forecast suggests rates will bounce around 6% throughout much of 2026, with a projected low of 5.7% and an average of 6.1%. This implies a modest further decline from the current 6.06% level, but it is a world away from the pandemic lows below 3%. The structural floor set by elevated Treasury yields and a spread that has already tightened limits the potential for a dramatic reset. The policy push from the White House, while significant in its implications, is unlikely to alter this trajectory materially. Analysts estimate the proposed $200 billion GSE MBS purchase would lower rates by only about 6 basis points, a fraction of the 40 basis points the Fed's pandemic program delivered.

For housing, this sets the stage for a meaningful but not explosive rebound. NAR economist Lawrence Yun forecasts a 14% increase in home sales for 2026, a figure contingent on sustained rate declines improving buyer qualification. The forecast hinges on the rate path staying below 6% for a meaningful stretch. If rates hover near 6%, the market could see a steady reactivation, with more inventory and less bidding war pressure. However, the forecast also assumes a moderating price environment, with home price growth expected to be roughly 2% to 3%-in line with inflation. This would improve affordability without triggering a correction, but it also means the powerful wealth effect from rapid appreciation is absent.

The broader market implications are twofold. First, the GSEs' expanded role as policy tools introduces new financial and political risks. Their balance sheets, while growing, remain modest. Taking on the role of a quasi-central bank increases their exposure to interest rate risk and taxpayer liability, especially if rates rise after purchases are made. Second, it creates a dangerous precedent that blurs the lines between fiscal and monetary policy. The directive for Fannie Mae and Freddie Mac to purchase $200 billion in MBS is a direct assertion of executive power in a domain long reserved for the Federal Reserve. This raises fundamental questions about the future independence of these institutions and the long-term viability of any privatization plan, which now appears increasingly distant.

The bottom line is a market navigating a new normal. Mortgage rates will likely offer some relief, but not a return to the cheap money era. Housing activity can rebound, but its pace and scale are now inextricably linked to the political economy of housing finance. The structural limits are clear, and the forward-looking scenarios reflect a world where policy intervention, however large, cannot fully override them.

Catalysts and Risks for the Rate Path

The immediate trajectory for mortgage rates hinges on two competing forces: the resilience of the Treasury benchmark and the effectiveness of the new policy tool. The primary catalyst is the path of the 10-year Treasury yield, which has recently broken out of its trading range. This yield is the fundamental floor, and its movement will be dictated by Federal Reserve policy, inflation data, and global capital flows. Any sign that the Fed is moving toward a more dovish stance, or that inflation is cooling more decisively, could provide the necessary push for Treasury yields to fall further. Conversely, persistent inflation or a hawkish pivot from the Fed would cement the current yield level, capping any potential for mortgage rate declines.

The second catalyst is the market's reaction to the unprecedented $200 billion GSE MBS purchase directive. The initial compression of the mortgage spread is a positive signal, but its marginal impact is likely to diminish. The market is already pricing in the liquidity provided by Fannie Mae and Freddie Mac. Further purchases may struggle to narrow the spread meaningfully, hitting a structural floor where the remaining risk premium reflects deeper concerns about GSE credit quality and the long-term implications of their expanded role. The key will be whether the policy can generate a sustained shift in market sentiment or if it merely provides a temporary, shallow relief.

A major risk is that the GSE purchases face regulatory or legal challenges. The directive represents a direct assertion of executive power into a domain traditionally reserved for the Federal Reserve. This blurs the lines between fiscal and monetary policy and raises serious questions about the future independence of the GSEs. Any legal action or regulatory pushback could stall or invalidate the program, removing a key support for mortgage rates. Even without a legal challenge, the political economy of this intervention introduces new uncertainty, making the GSEs a more visible and potentially volatile participant in the MBS market.

Finally, watch for the real-world impact on housing activity. The national average 30-year fixed mortgage APR remains elevated, and builder sentiment surveys have not yet reflected the recent rate changes. If rates stabilize near 6%, the market may see a steady reactivation, but it will be a function of the policy's limited effectiveness. The forecast for a 14% increase in home sales for 2026 assumes rates stay below 6% for a meaningful stretch. If the GSE program fails to deliver that relief, the housing rebound could be weaker and more delayed than expected. The bottom line is a path defined by external forces and a policy tool with constrained reach.