Thirty-year rates aren’t plummeting, but the gap to Treasury yields is gradually tightening
Financial markets were largely unmoved last week by the Federal Reserve’s decision to cut interest rates by 25 basis points with 10-year Treasury yields, a key driver of 30-year fixed mortgage rates, showing no sign of a steep decline.
That means barring unforeseen events, mortgage rates aren’t set for a surprise late-year plunge. Still, there are some encouraging signs emerging for homebuyers – not least narrowing spreads between Treasury yields and mortgage rates, potentially putting downward pressure on borrowing costs.
That spread shows the extra yield investors demand to hold mortgages instead of generally less risky government bonds, and compensates for risks and costs that Treasuries don’t have including borrower default risk and the ability to prepay or refinance when rates fall.
During the COVID-19 pandemic, spreads widened when markets seized up – eventually spiking around the 3% mark in the following years, the largest gap seen since the global financial crash in 2007-08.
That large spread meant mortgage rates rose even more than they normally would as 10-year yields jumped at the onset of 2022.
But the spread has since narrowed to just above 2%, a better backdrop for mortgage rates going forward even if 10‑year yields don’t move much.
Why a smaller spread is important for the mortgage market
A narrower spread means today’s mortgage rates are already lower than they would be with a wider gap – and if the 10‑year yield falls, average 30‑year mortgage rates have more room to move down than they did when spreads were unusually wide.
That trend has been closely watched by mortgage brokers as they await good news on the rate front, despite average 30-year rates still stubbornly perched above 6%.
It marks “one of the biggest behind-the-scenes storylines ahead,” Kurt Brandly (pictured top), president at Greenside Capital, told Mortgage Professional America.
“Over the last few years, spreads have been unusually wide due to market uncertainty, inflation volatility, and the lack of a strong appetite for mortgage-backed securities,” he said.
But if spreads pull tighter in the months ahead, that could prove significant for the mortgage market, “even if the 10-year Treasury yield itself doesn’t move dramatically,” he said. “A tighter spread alone can bring mortgage rates down meaningfully.”
Fed urged to consider a potential ‘housing fix’
Some financial market watchers even say the Fed could play its part in bringing mortgage rates lower by snapping up more mortgage-backed securities in 2026.
Pimco analysts Marc Seidner and Pramol Dhawan, writing in September, described “a Fed housing fix that’s hiding in plain sight”: reinvestment in mortgage bonds and an end to a strategy it’s adopted since 2022 of shrinking its bond holdings, known as quantitative tightening (QT).
That approach saw principal and interest payments on mortgage-backed securities to “roll off’ the Fed’s balance sheet without being reinvested.
But “reinvesting the roughly $18 billion in current monthly roll-off into new mortgage securities could compress mortgage spreads by 20 to 30 basis points, in our view,” they wrote. “That wouldn’t be restarting QE – it would just keep MBS holdings steady.
“And it could deliver as much bang for the buck as a 100-bp cut to the federal funds rate, which is what has historically been needed to achieve a similar drop in mortgage rates.”
For now, there’s no sign that the Fed is ready to begin ramping up MBS acquisition. At the start of December, the central bank ended the runoff of its securities holdings – but is still letting agency MBS run off and reinvesting those principal payments into Treasuries, rather than buying new mortgage bonds.
And while bond yields often slide with the expectation of further Fed cuts ahead, chair Jerome Powell was coy in his remarks after last week’s rate decision, suggesting a wait-and-see approach is its likely course of action in the opening months of 2026.
Sam Williamson of First American says the Fed will likely proceed cautiously in 2026, with one or two rate cuts expected despite leadership changes. Policy remains data-driven, balancing inflation and employment. Read more and share your thoughts.https://t.co/2nyZa0eFbW
— Mortgage Professional America Magazine (@MPAMagazineUS) December 16, 2025
“We are well-positioned to see how the economy evolves,” he said following the announcement, its last rate decision of 2025.
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