Every time the Federal Reserve cuts rates, borrowing costs on home equity lines of credit fall. Normally, this would give homeowners with HELOCs reason to celebrate.

But these aren't normal times.

In recent months, lenders have frozen access to millions of HELOCs. "Lenders are moving rapidly to cut those off," says Bob Walters, chief economist at Quicken Loans.

That means millions of homeowners cannot take advantage of the improving HELOC rates. Lenders are abandoning home equity products for now because they view them as too risky in the current climate.

"They've seen horrific losses and they see home prices dropping," Walters says. "They know people are upside down on their homes in many cases, or worry that they will become such."

As the cycle of worry deepens, lenders become even more restrictive. The pattern illustrates a classic market verity, Walters says.

"Markets overextend in both directions," he says. "In the good times, people go too far and become far too lax -- and certainly we saw that.

"And in the bad times, people go too far and become far too restrictive. That's just the way it is."

What should borrowers do?
Walters says it's difficult to predict when credit finally will thaw enough to allow home equity lending to start in earnest again. When asked for a time frame, he offers a sobering conclusion.

"Sadly, not anytime soon," he says.

Cameron Findlay, chief economist at LendingTree.com, says home equity lending will lag until home prices begin to appreciate again. "We do not expect to see that improve until wages and unemployment improve, both of which are forecast only to get worse in 2009," Findlay says.

In the meantime, some HELOC holders may be tempted to take pre-emptive action by withdrawing a large amount of credit from a HELOC before their lender has a chance to freeze the line of credit.

In this strategy, withdrawn funds are moved into a high-yield savings account or a CD. If the savings or CD rate is high enough, it can wipe out any borrowing costs associated with holding the HELOC funds.

However, Walters is wary of using such a strategy. "I'm not going to endorse it one way or another," he says.

While he admits that pulling HELOC funds appears "pretty attractive" right now, it only makes sense "as long as you don't believe there's a (rate) spike at some point in the future."

Any future Fed rate hikes would send HELOC borrowing costs -- and monthly interest payments -- soaring. "If your borrowing costs exceed reinvestment costs, then you're paying a real cost to hold onto that liquidity," he says.

Ultimately, borrowers need to weigh how much risk they are willing to take on before employing such a bold strategy. "Everyone has to answer that question for themselves," he says.

Take-away
The Federal Reserve's decision to cut the federal funds rate by at least 75 basis points will drive down borrowing costs on home equity lines of credit.

It's more difficult to forecast the direction of home equity loan rates, which do not move in tandem with Fed rate decisions. Loan rates recently have soared to multi-year highs.

Meanwhile, lenders continue to turn away from home equity products as credit conditions tighten, and the Fed does everything it can to reverse the process.

"Liquidity is key, and thus far the Fed has been using every tool available to them to improve the flow of cash to banks," Findlay says. "The Fed cannot force banks to lend, but they can make it cheap enough (that) they want to."