In a recent blog about the recent rate cut, I wrote the following:
Will borrowing costs come down? Not as fast as everyone would like. While lenders’ rates typically follow the Federal Funds Rate directionally, the relationship isn’t as straightforward as many might expect. Lenders adjust more slowly, cautiously, and incrementally than the Fed. A 50 basis point Fed rate cut doesn’t mean an immediate equal reduction in lending rates. With the higher default rates across lending sectors in 2024, lenders will likely reduce rates more slowly than Fed cuts as they weigh multiple factors beyond the Fed’s actions. Borrowers shouldn’t expect quick or one-to-one reductions in lending rates following Fed cuts.
I wrote it because there was a misconception that once the Federal Funds rate was lowered that all lending rates would follow on day one. And, as my passage above indicate, they don’t.
But it occurred to me that most people simply take rates on a surface level. That they really don’t know what goes into a lender’s interest rate on any particular loan or lease. So I thought it might be fun to do a little series on interest rates, so you can get a really good idea of how a lender arrives at the rate borrowers pay.
Here are a few sneak peeks of future topics and posts:
- The relationship between risk and the rate
- How loan type and intended use affects rates
- Collateral and rates
- Internal cost of funds and rates (aka, “how much does money cost?”)
- Defaults and rates
- Credit scores and other risk profiles affecting rates
- Benchmark rates and market conditions
- And more!
My goal is to give you a look under the hood at how lenders generally arrive at the rates borrowers pay. There is definitely more to it than meets the eye. I personally find this topic fascinating, and I hope over the posts to come, you will too.