Fixed mortgage rates are at record lows, so is it time to consider fixing your home loan? We asked the experts
Fixed home loan rates have never been cheaper in this country, but could they go even lower or is this as cheap as a mortgage will ever get?
Certainly, an increasing proportion of home buyers and mortgage refinancers are betting that the current deals are as good as they’re likely to see.
“Historically about 85 per cent of people stay on floating rates, or variable rate mortgages,” notes Martin Whetton from the Commonwealth Bank.
Cost is a key reason why.
“It’s more typical that the lowest rate in the market has been a variable rate, not a fixed one, but that has been turned on its head during COVID,” observes RateCity’s research director Sally Tindall.
These are not just one or two-year ‘honeymoon’ rates, but three or four-year terms, including some from the major banks.
Many of the three-year rates and a few of the four-year rates are below 2 per cent.
In fact, four-year fixed rates are cheaper at the major banks than their discount variable rates, and that’s almost unheard of.
Have rates bottomed?
There are few people better qualified to answer this question than Martin Whetton, the Commonwealth Bank’s head of fixed income strategy.
Put simply, Australia’s biggest home lender tasks him with predicting where interest rates might go.
“Probably the low was seen a few months ago and I think from here we do see some banks start to lift their fixed rates, although there’s a lot of competition in the market for mortgages,” he says.
And how confident is he of his forecast?
Sure enough to put his own money where his mouth is.
“I fixed my rates at the end of last year,” Whetton says, with a smile.
“Some of my mortgage, not all of it,” he adds, “because obviously there’s flexibility around not locking in all of it.
He’s far from the only expert who believes we’ve passed the low point for interest rates.
Anthony Doyle is an investment specialist with global fund management giant Fidelity.
What he’s seeing on global money markets convinces him that Australian banks will face higher costs due to rising yields – or interest rates – on the bonds that are a benchmark for their funding.
“I would suggest that the cyclical low in yields is probably behind us, particularly given the outlook for the global economy and our own economy,” Doyle says, citing the unexpected speed and success of COVID-19 vaccines so far.
This is already showing up in four and five-year rates, with RateCity’s database showing more lenders raising those rates over the past month than cutting them, including Whetton’s employer.
“The biggest sign that we’ve had to date was that CBA last month hiked their four-year rate, instead of cutting it,” observes RateCity’s Tindall.
“I think that’s a sign that they are now factoring in cash rate increases and cost of funding increases that are coming down the line.”
But she thinks there might be at least a few more months of cheap fixed rates for terms of three years or less.
How quickly might rates rise?
To answer this question you need to understand why fixed rates are so very cheap in the first place.
The biggest reason is that central banks threw the kitchen sink at their economies last year to keep them from going down the drain during the global pandemic.
You probably know that our Reserve Bank cut the official cash rate to a record low 0.25 per cent in March last year, and then even lower to 0.1 per cent in November.
What you may not realise is how much extra support the RBA showered on the economy, especially since November, which is when even four and five-year fixed loans really started undercutting variable rates.
That’s because, while variable rates are very responsive to the cash rate, fixed rates are more responsive to money market moves, such as bond prices and yields (interest rates).
The Reserve Bank started buying $100 billion worth of longer-term Australian government bonds pushing their price up and yields down – in February it topped this program up to $200 billion.
It’s also been buying many billions of dollars’ worth of three-year Australian government bonds to keep their interest rate around the same as the cash rate at 0.1 per cent, a move known as yield curve control.
Finally, the Reserve Bank opened a loan program for Australia’s banks, credit unions and building societies called the Term Funding Facility (TFF).
It allowed them to borrow a combined total of up to $200 billion directly from the RBA for three-years at the cash rate – since November that has been 0.1 per cent.
To put it very simply, the banks are getting three-year fixed loans from the RBA at 0.1 per cent, so it’s little surprise fixed mortgage rates are very cheap at the moment.
Martin Whetton says it’s not quite that simple, but the TFF has been a major factor pushing mortgage rates down.
“It allowed the banks to fund themselves and get access to funding at a pretty cheap rate,” he explains.
“In and of itself, it doesn’t mean they go and borrow there and lend, however it’s reduced the cost of banks’ borrowing, so it’s allowed them to have pretty good fixed rates.”
This is why most analysts are expecting fixed rates to rise later this year.
“The Term Funding Facility is finishing on the 30th of June of this year,” notes Tindall.
In addition, many analysts are expecting that the Reserve Bank will decide not to extend it’s yield curve control past the April 2024 Australian government bond, effectively allowing a further rise in three-year rates.
“Market pricing today is suggesting that they won’t extend that yield curve control program and, with that in mind, fixed rates – the pressure will be on them to rise, because this is the part of the curve that fixed rates are really priced off,” explains Doyle.
Martin Whetton agrees that RBA support will wind down as the economy keeps improving.
“When those things disappear as factors that have held rates down, you typically will see some sort of rise, probably slow to begin with, but a rise nonetheless,” he forecasts.
“We think that in the latter half of the year, the final quarter, is when the banks need to go back to the market a bit more vigorously and borrow, so they’re not getting that lower rate from the RBA, they’re actually competing for funds in the global capital markets.”
What are the main risks of fixing your mortgage?
First and foremost, there is a risk you might miss out on even cheaper interest rates while you’re locked in.
While most analysts see the only way for rates as up from here, not everyone is so certain.
“They can definitely go lower,” says David Llewellyn-Smith, an economist with fund manager and financial news blog MacroBusiness.
“Doesn’t mean they will, but they can.”
He points to overseas markets, particularly Europe, as an example of just how low mortgage rates can go.
So what might get Australia to a similar position?
“To see rates move much, much lower, you’d really need to see another recessionary type of environment and the RBA stimulating to a large extent again,” says Fidelity’s Anthony Doyle.
“That’s not something that I think we’re going to see.”
Llewellyn-Smith is less confident, pointing to a looming winddown in Chinese stimulus and expected drop-off in commodity prices next year as one potential catalyst for a renewed economic downturn.
If that happens, he argues the pressure will be on the RBA to re-start programs like the TFF and more aggressively buy bonds to send interest rates further to the floor.
“These things, once they’re in the market, are quite difficult to unwind permanently,” he says of the stimulus programs, which increase debt and make households and businesses even more vulnerable to economic shocks.
Closer to home, there are individual risks to fixing your loan.
Sally Tindall says fixed mortgages usually lack flexibility if your circumstances change.
“They have typically no offset accounts, they have caps on how many extra repayments you can make, and if you want to get out early you could be up for some costly break fees,” she cautions.
For example, most home loans are non-transferrable to a different property.
So, if you sell, you have to pay out the loan and get a new one for your next home.
With a fixed loan, that will generally mean paying a break fee to compensate the bank for leaving the loan before its term has expired. This can be many thousands of dollars, depending on the size of the loan and the length of term you had left.
Another potential trap is the variable interest rate you will receive when your fixed term ends, which is often not the lender’s most competitive discount rate.
That means you may well want to consider refinancing again when your ultra-low fixed rate comes to an end.
And, if you fix for three-years, you might find the Reserve Bank has started its next rate hike cycle just when it’s time to go variable or look for a new fixed loan, as the RBA currently says the cash rate will probably stay where it is until “at least 2024”.
“Three years is sort of the point at which we’re not moving rates for that period of time but after that it’s open season,” says Martin Whetton.
This article is not financial advice. Mortgages are highly personalised financial products and, as such, you should seek professional individual advice about your circumstances when considering your options.
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