Fed Rate-Cut Winners and Losers

by Chris Kissell, Sheyna Steiner, Laura Bruce, and Leslie McFadden

When the Federal Reserve meets and changes rates we all have questions: What does it mean to me? Will my mortgage rate go up or down? Is this a good time to refinance? Bankrate is here to help. We've looked at five categories -- mortgages, home equity loans, auto loans, credit cards and certificates of deposit -- to determine if the Fed's moves made you a winner or a loser. Here's a look at mortgages:

Winner: Borrowers with good credit

The surprise decision by the Federal Open Market Committee to cut the federal funds target by 75 basis points likely reflects growing fears that the U.S. economy is weakening. Ironically, such worries may be good for people hoping to see lower mortgage rates.

Mortgage rates often dip when investors fearing an economic slowdown grow more conservative and buy up Treasuries and bonds. This causes long-term rates -- and by extension, mortgage rates -- to fall, creating an opportunity to get better terms on a loan.

However, the nation's recent credit woes mean you probably need a sound credit history to take advantage of these better terms.

"If you are a high-quality credit household and you're looking to buy a house, prices have fallen in many markets," says Doug Duncan, chief economist for the Mortgage Bankers Association. "In addition to that, interest rates have come down.

"Those two things indicate that you're likely to get a more affordable mortgage and homes will be more affordable."

People with adjustable-rate mortgages can also refinance to a fixed-rate mortgage. This will lock in their payment for years to come, regardless of the future direction of mortgage rates.

Loser: Borrowers with bad credit

Falling mortgage rates are great for homebuyers and homeowners looking to refinance. But if you've had credit problems in the past, tightening lending standards means you're less likely to be approved for a loan, Duncan says.

Take action

Now is a good time to start shopping for a home. It's also a good time to refinance from an adjustable-rate mortgage to a fixed-rate.

"The takeaway for the average Joe is that it's one heck of a time to refinance," says Bob Walters, chief economist for Quicken Loans.

Meanwhile, if your credit is bad or your home is losing value, you likely will have more difficulty getting a loan. Still, it's worth calling around to find a lender who may be willing to work with you, Walters says.

Here's a look at home equity loans:

Winner: HELOC borrowers

People with home equity lines of credit should cheer the surprise decision by the Federal Open Market Committee to cut the federal funds target rate by 75 basis points today. Most HELOCs are pegged to the prime rate, which rises and falls in tandem with the federal funds rate.

If you have a HELOC, borrowing costs are likely to get cheaper for the fourth time in the past five months.

Loser: Home equity loan borrowers

Home equity loan rates have remained frustratingly static throughout the Fed's most recent series of rate cuts. Sometimes they move up a bit, other times they tick down a hair. But overall, rates have hovered around 8 percent for more than six months.

Bob Walters, chief economist at Quicken Loans, says growing lender reluctance to offer these loans has stifled the type of competition necessary to drive rates down.

Take action

Now is a great time to open a home equity line of credit -- if you can get approval. For people with bad credit or little home equity, that's a very big "if."

Meanwhile, people shopping for home equity loans should not necessarily expect rates to fall. Borrowing costs on these loans have changed very little since the Federal Reserve began its latest rate-cutting campaign last fall.

"I'm not saying that everyone's going to get approved," he says. "I'm saying that everybody should try."

Here's a look at auto loans:

Winner: Auto-loan borrower

Since the Federal Open Market Committee began cutting short-term interest rates in September 2007, not much has happened to auto loan interest rates. The standard five-year new-car loan rate fell 12 basis points over the intervening four months, which saw short-term interest rates slashed 100 basis points altogether, or a full percentage point.

The standard three-year used-car loan has moved even less, coming in 2 basis points less than the rate in September.

This 75 basis point cut to the federal funds target will lower rates overall, but the impact to auto loan rates will continue to be slight, says Jesse Toprak, executive director of industry analysis at Edmunds.com.

"I think the reason we aren't seeing a big impact in auto loans rates is because the correlation between auto loan rates and federal funds target rates isn't one to one as it used to be," he says. "They used to be short-term loans, but now we're getting to almost five and a half years, which stretches into mid-term length for loans, so short-term rates will have less of an impact."

Auto-loan shoppers should look for auto-loan interest rates to continue drifting gradually lower. In addition, predictions for soft auto sales mean manufacturers will continue to buy down interest rates to lure in buyers.

"Its going to be a tough marketplace in 2008. We predict that sales will be even lower in '08 than '07 so we're going to see even more zero percent APR offers," says Toprak.

"Third party rates are not going down as much, but there will always be good deals out there on some models."

Take action

With banks circling the wagons to protect liquidity and a constriction in credit markets, keeping a great credit score is even more important now than it was in the recent past. Check your credit report before shopping for a car and work to improve your credit score.

Here's a look at CD and money market accounts:

Loser: Certificate of deposit buyer

A 75-basis-point cut will be a bit painful for CD buyers, but we can't say it was unexpected. The stock markets have been screaming for this and more. It seems likely more cuts will come.

Nevertheless, at least until now, CD yields have held remarkably well despite the chipping away by the Federal Open Market Committee at short-term interest rates since last September. According to Bankrate surveys, a run-of-the-mill six-month CD yielded an average of 3.54 percent when the Fed began cutting the federal funds target rate. Today, that annual yield is down to about 3.36 percent.

A high-yield six-month CD during the same time frame has gone from 5.17 percent to 4.72 percent. Not bad considering the Fed lopped a full 1 percent off the federal funds rate before today's cut.

Fierce competition among banks for customers and deposits has helped keep CD rates propped up. So, why do we say CD buyers are losers? That may be a bit harsh, but CDs are a declining investment -- you're reinvesting at lower rates.

The truth is no one invests in CDs to get rich; they're looking to preserve their money and hoping to come out a bit ahead of inflation. So, in a market like this maybe CD buyers are winners.

Take action

No one has a crystal ball to tell us when the economy will begin to recover. The Fed could be in for a long cycle of cutting rates. Consider buying the longest maturities you can handle to lock in the best rates for the longest period of time.

Here's a look at credit cards:

Winner: Credit card debtor

In a surprise move, the Federal Open Market Committee reduced the federal funds target rate. It cut the target rate by 75 basis points, which brings the federal funds rate down from 4.25 percent to 3.5 percent. This reduction will trigger the prime, which is usually 3 percentage points higher, to drop from 7.25 percent to 6.5 percent.

Because most variable-rate credit cards are based on the prime rate, consumers with variable-rate cards may see their APRs decline. Cardholders may see some rate relief in their February payments, says Tony Plath, associate professor of finance at the University of North Carolina.

Plath says fixed-rate cardholders are not likely to see their APRs dip as a result of the FOMC's actions.

Another professor argues that credit cardholders may not see their rates decline because the banks have tightened their credit standards.

"The banks have suffered large increases in defaults, there have been large increases in foreclosures in the mortgage market and bank lending is more carefully scrutinized now by both the regulators and the banks themselves," says Harold A. Black, the James F. Smith Jr. Professor of Financial Institutions at the University of Tennessee, Knoxville.

"I actually think that even though under typical times the Fed lowering those short-term rates would eventually start to bring down credit card rates, it may not be as pronounced in this market simply because of what's going on as far as credit standards are concerned."

Take action

Regardless of whether this rate cut translates to a lower monthly payment for you, a credit card issuer can change your interest rate at any time, with 15 days advance written notice. Reduce your balances as much as possible or pay them off and you'll save more money than you would with a rate cut.