Variable v Fixed

[tk79]

Hi,

Just had an offer accepted for my first IP (i have another house but its my PPOR). Im thinking of getting a variable loan. My line of thinking is that even if labour comes in power i dont think interest rates will go up too much due to the strong economy and todays labour is not the labour party of 10 years ago in that they are more focused on the economy and less likely to be manipulated by unions. If liberal stays in power i think we can expect the same continued strong growth as the last decade.

Do the gurus think its better to fix the loan or go variable, pls let me know what you think is the better option and why. Thanks in advance

 

[Rolf Latham]

Hi Tk

An important variable that you do know the answer to is

If rates go up by one %, can I still afford my repayments ?

ta
rolf

 

[MPmelb]

tk79, you firstly need to understand why interest rates could rise.

interest rates go up when the economy is too strong, and wages and prices are rising = inflation.

That's just what is occurring now.

If you're not sure, take an each way bet - make 1/2 the loan variable, and 1/2 the loan fixed.

 

[firstmillion]

Hi,

Just had an offer accepted for my first IP (i have another house but its my PPOR). Im thinking of getting a variable loan.
Do the gurus think its better to fix the loan or go variable, pls let me know what you think is the better option and why. Thanks in advance

Hi TK,

Congrats on ur first IP. My offer also got accepted for my first IP . I am planning to go for fixed rate for 5 yrs IO. My idea is that I don't want to be bothered abt the interest rate rises. Whoever comes in power, can anyone get the interest rates down ??. Only way interest rates will go is UP !! IMHO, I will stick with fixed rate.

Cheers

 

[WillG]

Think of fixing interest rates as an insurance policy against a rise in interest rates.

Do some numbers on the cost of this insurance policy if the rates go up and down. For example - calculate the total interest paid over the 5 years and compare.

loan 300000
variable rate 7.50%
Stays same for 5 years 112500
Increases 0.25% every year 116250
Decreases 0.25% every 2nd year 111000

fixed at 7.8% for 5 years 117000


I am happy staying with a variable rate at the moment because rents have generally kept pace with interest rates (although lagged) and my portfolio is neutrally geared. I cannot see the value in currently fixing interest rates because I need the flexibility of making my equity available without re-financing(I intend on purchasing more investments in the short term). I believe re-financing from a fixed interest loan can incur significant breakout costs.

I guess what I am trying to say is that, fixing loans will depend on your situation.

Happy investing

 

[alexlee]

Hi,

Just had an offer accepted for my first IP (i have another house but its my PPOR). Im thinking of getting a variable loan. My line of thinking is that even if labour comes in power i dont think interest rates will go up too much due to the strong economy and todays labour is not the labour party of 10 years ago in that they are more focused on the economy and less likely to be manipulated by unions. If liberal stays in power i think we can expect the same continued strong growth as the last decade.

Do the gurus think its better to fix the loan or go variable, pls let me know what you think is the better option and why. Thanks in advance

As mpmelb says, interest rates go up if the economy is too strong. More importantly, the movement of fixed rates also depends on what OTHER countries are doing. That is, if other central banks (European Central Bank, US Fed, Bank of England, most importantly Bank of Japan) raise rates, fixed rates you see in Australia may rise even if the RBA doesn't raise short term rates.

In simple terms, a 10 year fixed rate is determined by what international mortgage bond investors want for a 10 year rate (which will be influenced by, say, what they can get on a US Treasury) + the bank's profit margin. The latter is influenced by competition. The former by the supply of money internationally.

Generally, if you expect WORLD wide interest rates to rise (not just Oz) then the fixed rate will rise as well. This is driven by inflation.

There is no 'better option'. Most of these are only obvious in hindsight. For example, the best time to fix was around 18 months ago. Now.... who knows. Budget for a 3% increase and just keep holding on! If you're concerned, get a fixed rate, and just grin and bear it if rates go down, because you know you'll be smiling if they go up.
Alex

 

[keithj]

Previous posters have made good suggestions including -

• consider splitting between fixed & var - it should be free
• do you think fixed rates are currently lower than the average var rate will be over the fixed period you're considering - do a spreadsheet with a few what-ifs
• will you be holding this IP for at least the term of the fixed period
• are you considering prepaying interest this FY (bearing in mind tax rates will be lower next year)
• can you hold (without ANY stress) if IRs raise by 1%
• will you be in a position to put cash into your offset a/c at any time during the fixed period

I fix based on -

• whether I feel IRs at at historic lows - like 2003 when 5.95% fixed for 5yrs was available virtually everywhere
• what the outlook is for the next 1-2 yrs - I think anyone guessing further out than that has a >50% chance of being wrong
• what fixed rates are currently doing - ATM they're rising slowly because the smart money thinks var IRs will rise once or twice in the next 12 months.
• what var rates are currently doing - I posted a couple of yrs ago (with graph) that when Var rates are falling is the worst possible time to fix even if fixed rates are significantly lower.
• the big picture - is the share/IP boom/bust cycle likely to move IRs in the period I'm considering

So, if I was in your shoes I'd fix for 2 yrs if I could find a fixed rate a fair bit below the discounted var rate.

And congratulations on ACTING, now is the time to be fine-tuning your IP style with details like this.

 

[tobe]

To fix or not is a sleep at night question for the individual. Many highly paid currency traders nut out the variables on the cost of money and future interest rates, and still get it wrong.
If you find you cant sleep with a varibale rate, fix all or part of it. It is insurance, and it can be costly to switch back, re-fi to another lender, increase borrowing etc. Its much easier to start vaiable, and switch later to a fixed rate than the other way around.
The other option if available is to self insure, borrow extra to leave as a buffer if interest rates climb, or tenants leave etc. Landlords insurance, a good PM etc. With interest rates, at some point the extra cost is going to be passed wholly or partly onto the tenant, so you may only have to bear a higher repayment for a limited amount of time.

 

[crazylikeafox]

I'm thinking of fixed for 3 years, just so I don't have to worry that rates may go up and then I'd have to work more while studying to make the extra repayment targets I've set myself. But...I need to find a loan that allows at least $10,000 extra per year and has reasonably low fees if I'm able to make more.

 

[Shadow]

Variable vs Fixed

Interesting quote from Wikipedia on this topic... I knew I read this somewhere before so I just googled it to confirm...

http://en.wikipedia.org/wiki/Adjustable_rate_mortgage


'Adjustable rate mortgages are typically, but not always, less expensive than fixed-rate mortgages. Due to the inherent interest rate risk, long-term fixed rates will tend to be higher than short-term rates (which are the basis for variable-rate loans and mortgages). The difference in interest rates between short and long-term loans is known as the yield curve, which generally slopes upward (longer terms are more expensive). The opposite circumstance is known as an inverted yield curve and is relatively infrequent.

The fact that an adjustable rate mortgage has a lower starting interest rate does not indicate what the future cost of borrowing will be (when rates change). If rates rise, the cost will be higher; if rates go down, the rate will be lower. In effect, the borrower has agreed to take the interest rate risk. Some studies[6] have shown that on average, the majority of borrowers with adjustable rate mortgages save money in the long term; but they have also demonstrated that some borrowers pay more. The price of potentially saving money, in other words, is balanced by the risk of potentially higher costs.'

I'll be chosing Variable for my IPs, and hoping Labor don't mess things up

Shadow.

 

[keithj]

Some studies have shown that on average, the majority of borrowers with adjustable rate mortgages save money in the long term; but they have also demonstrated that some borrowers pay more.

I'll be chosing Variable for my IPs, and hoping Labor don't mess things up

Have a read of this post & study the attached spreadsheet & graph, then decide if you want to be one of that majority.

 

[GoAnna!]

In the end any busines comes down to cashflow. If the variable rate rises to such an extennt that you cannot hold your portfolio it can be very financially painful or even disasterous. Members of this forum have made their fortunes and then lost them last time interest rates went sky high.

Those with multple properties will feel it more than those with one or two unless you are hghly cashfow positive.

There is no right answer for anyone but I know personally that I cannot afford to risk rates going up 2% across our portfolio so I do lock some in......over various time frames. We currently have some rates as low as 6.49% and overall we have been better off. Even if it did cost us some we are fine with us because its cheap insurance to hold onto our properties through the next boom.