21. Why are Mortgage Rates So Much Higher Than the Fed Funds Rate?

The reason is because lending money overnight and lending it for 30 years are very different deals.

As of October 23, 2026, the 30-year mortgage was around 7.3% (Mortgage News Daily), the Fed’s target rate was 3.75–4%, and the 10-year Treasury was around 5%. The easiest way to understand the gap is in two steps.

Step one: from the Fed to the 10-year.

The Fed sets the rate on overnight loans between banks. A 10-year Treasury locks your money up for a decade. So an investor deciding whether to buy one asks two questions:

1.      What will short-term rates average over the next ten years? An investor could skip the 10-year bond and just keep lending overnight, rolling the money over every day. If they expect the Fed to keep raising rates, as it’s signaling now, rolling over looks like the better deal. A 10-year bond has to pay at least what they’d expect to earn that way, or nobody buys it.

2.      How much extra do I want for being stuck? Once you buy a 10-year bond, you’re locked in. If inflation runs hotter than expected, or the government borrows more and pushes rates up, your bond loses value, and you can’t get out without taking a loss. Investors want a little extra for taking that chance. (Economists call it the term premium.)

Add those two together and you get the 10-year yield. That’s why it can sit well above the Fed’s rate even when the Fed isn’t doing anything.

Step two: from the 10-year to your mortgage

Mortgages cost more than Treasuries for three reasons.

1.      You can pay it off whenever you want. A Treasury pays a fixed rate for exactly ten years – a mortgage doesn’t. If rates drop, you refinance, and the investor gets their money back early, right when the only new loans available pay less. For example, lets say they bought your mortgage at 7%, but rates have now fallen to 5.5% and you decide to refinance your home. Now they have to reinvest those funds at 5.5%.

If rates rise, the opposite happens: you hold onto your cheap loan for as long as you can. Either way, the timing works against the investor, so they charge extra up front to account for risk.

2.      Mortgages cost money to run. The government doesn’t charge anyone to issue a Treasury bond but a mortgage has to be serviced every month, guaranteed by Fannie Mae or Freddie Mac, and bundled with thousands of others into a bond that investors can buy in the form of mortgage-backed securities. Each of those steps takes a cut, and it shows up in your rate.

3.      Nobody knows when people will refinance. The first point gets worse when rates are jumping around. If investors can’t guess whether borrowers will refinance in two years or twelve, they can’t tell how long their money will be tied up, so they add even more cushion. That’s why this gap gets wider when markets are nervous (as they are today) and shrinks when they calm down.

That second gap usually runs about 1.7 to 2 points [Mortgage News Daily]. It blew out to around 3 points in 2023 and has come down since – but at about 2.3 points (which is where it is today), it’s still above normal.

Why it matters

If that second gap gets back to normal, mortgage rates come down even if the Fed and the 10-year don’t move. That’s a big part of why I expect rates to ease next year.