I'm taking my lead on rates from the Chinese, Indian, and Brazilian stock markets.....as is the bond market it seems.
How are they going
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NZ based below, but worth the read
which-mortgage-fixed-rate-best/
ASB, ANZ, and National Bank increased their 2 Year through to 5 Year mortgage rates last week. Generally the 1 Year Rate is down at around 5.40% and the 5 Year is up around 8.20%-8.30%. That is almost a 3% difference in rates! Rates going up is likely to stir some level of fear amongst those closely following rates. I’ve been reading a few other blogs related to interest rates and some comments are enough to scare your pants off. DON’T PANIC!!!
Quick Summary
I’m still fairly relaxed about rates. My view is still to split your mortgage into multiple parts and fix using short-term rates (floating through to 18 month fixed.) Based on my forecast of mortgage rates you will SAVE between 8% and 20% on your interest costs by using consecutive 1 year fixed rates rather than a 5 year fixed rate. This post explore “how” in more detail
In Reality - what is a Fixed Rate?
There is no debate that eventually interest rates will go up - we are at the bottom of an interest rate cycle. With a fixed rate you pay a premium now for a set period of certainty. However, you will not avoid higher fixed rates altogether. In 3-5 years time your fixed rate will mature and rates will be significantly higher than today. If you are simply trying to avoid higher rates later on - ask yourself will my fixed rate achieve this or simply delay the inevitable?
Whether you take a 3 year fixed rate or 3 consecutive 1 year rates, in 3 years you will be at the same point - with a maturing fixed rate. So the question is what strategy saves me the most interest over those 3 years? (I think the 1 year!)
With a Short-Term Mortgage Rate you will pay less Interest.
Given that fixed rates only provide limited certainty, and that as outlined above there are other ways of building certainty, the big question is under what option will I pay less interest? This depends on (1) how quickly you are paying off your mortgage and (2) how quickly mortgage rates increase.
Using some cool mathematics we can calculate how quickly rates need to increase for the 5 year fixed rate to be considered good value. These rates are shown below as Implied Future Rates (Grey). We have shown these against my view of how future rates will track (Orange.)
See site for chart
If rates pan out as I expect then you’ll pay up to 20% less interest using short-term rates. On a $400,000 mortgage that equates to an extra $32,000 off your mortgage in 5 years time. Based on my view of interest rates I consider the fair value for a 5 year fixed rate to be 6.95%. (Back in February when it was below this level we recommended fixing for 5 years but have since been calling shorter term fixed as offering better value.)
Even if rates increase faster than I expect (green scenario) you’ll still be better off using short term rates paying up to 8% less interest over 5 years.
Just looking at the rates/calculator
At 5.5% on a $1,000,000 Loan over 25 years, the IO payments will be $4,583 p/mth
At 6.5% on a $1,000,000 Loan over 25 years, the IO payments will be $5,416 p/mth
At 7.5% on a $1,000,000 Loan over 25 years, the IO payments will be $6,250 p/mth
At 8.5% on a $1,000,000 Loan over 25 years, the IO payments will be $7,083 p/mth
At 9.5% on a $1,000,000 Loan over 25 years, the IO payments will be $7,916 p/mth
How high do we see them going?
