The Fed Voted 12-0 to Raise Interest Rates for the First Time in 3 Years. Here’s How a 3.75%-4% Fed Funds Rate Impacts Housing Stocks.

After weeks of speculation, the Federal Open Market Committee (FOMC), which sets monetary policy on behalf of the Federal Reserve, has raised interest rates for the first time in three years.

The FOMC increased its benchmark overnight lending rate, the federal funds rate, by a quarter point to a range of 3.75% to 4%. Voting members on the committee voted unanimously to raise interest rates.

The market had widely expected the hike.

The FOMC also released its Summary of Economic Projections (SEP), which showed that the majority of FOMC members expect one more hike this year. Four members see two more hikes.

Interestingly, the majority of FOMC members don't expect the committee to lower interest rates until 2028 at the earliest.

Here's how a quarter-point hike affects housing and home improvement stocks.

Image source: Getty Images.

From bad to worse

It's been a tough year for the housing sector. Consider that the market had forecasted multiple rate cuts at the beginning of the year. Now, the FOMC may end up hiking multiple times.

The federal funds rate influences the trajectory of other bond yields, such as the 10-year U.S. Treasury note, which directly influences mortgage rates.

Mortgage rates flirted with 7% recently, and I wouldn't be surprised to see that happen again. High mortgage rates, coupled with high home prices, lead to depressed volume.

According to recent data from the Mortgage Bankers Association, mortgage applications to purchase a home last week were down 19% from the same week one year ago. And nobody will refinance an existing mortgage with rates climbing.

This is especially bad for companies originating mortgages, but also home improvement stocks, as buyers and sellers spend significantly to renovate a home before or after a sale.

Although the market expected a rate hike from the FOMC, Fed Chair Kevin Warsh appears to have come across as more hawkish during his post-meeting press conference on Sept. 16.

"The plain fact is that inflation is too high, and has been for too long," Warsh said in the press conference. "This summer's inflation readings do not tell me that underlying trends have meaningfully improved."

It's also unclear how much a rate hike can help the situation, as elevated inflation right now is largely supply driven, due to higher oil prices.

Economic conditions can change quickly

Although the outlook for the housing market is bleak, one thing this year has shown is that economic conditions can change quickly.

It's more than possible that after the midterm elections, tensions between the U.S. and Iran de-escalate, oil prices come down, and inflation finally finds its way back to the Fed's preferred 2% target.

Or perhaps the economy comes under some stress, leading the Fed to lower rates. That could still jump-start the housing market, depending on the specific conditions.

Here's how several large mortgage originators and home improvement stocks trade on a forward price-to-earnings multiple basis.

RKT PE Ratio (Forward) data by YCharts

As you can see, there is a pretty big range of multiples, meaning some of these stocks in the same sector are perceived to be of higher quality.

The good news is that if rates drop and housing activity moves higher, all are likely to experience earnings growth.

Given the uncertain environment, I'd stick with the higher-quality names right now, like Rocket Companies and Home Depot (NYSE:HD).

They don't necessarily need to be huge positions, but it might be worth having some exposure, in case interest rates do drop sooner than expected.

Bram Berkowitz has positions in Compass. The Motley Fool has positions in and recommends Home Depot and Rocket Companies. The Motley Fool recommends Lowe's Companies. The Motley Fool has a disclosure policy.