If you are thinking about locking in a cheap fixed interest rate on your mortgage, the clear message from financial markets is that those rates will probably climb in the months ahead. That suggests it is time to act sooner rather than later.
Fixing is not for everyone, of course. It is inherently inflexible and can leave you with hefty costs if you change your mind and seek to break the fixed term early.
However, since the coronavirus pandemic first hit, the number of Australians fixing the rate on their mortgage has surged. The prime reason is that this type of borrowing has become extremely cheap, with banks offering rates of less than 2 per cent.
Several trends in financial markets are now telling us that ultra-low fixed rates have bottomed out, and banks are likely to continue raising them from here – albeit in small amounts.
But hang on. Hasn’t the Reserve Bank of Australia (RBA) said it does not expect to raise official interest rates before 2024? Why are fixed rates rising so much earlier than that?
Fixed rates move independently of the RBA because they reflect the cost to a bank of locking in funds for a set period.
Their pricing reflects more what is going on in markets where the banks borrow money, which is in turn influenced by government bond markets. And there are a few reasons why some of these interest rates – often expressed as “yields” – are rising.
One is a concern about inflation.
Earlier in 2021, longer-term bond yields started rising, as investors became convinced the economic recovery would be stronger than expected, which would lead to higher inflation and therefore higher interest rates.
AMP Capital Investors chief economist Shane Oliver says this narrative of rising inflation has faded somewhat lately, partly because the outbreak of the Delta strain of COVID-19 has been a global setback.
However, once more people get vaccinated, he thinks the market’s focus will probably return to inflation and the possibility of rate hikes. That would push up bond yields, flowing into higher bank borrowing costs and fixed rates.
“We are probably going to have a little window there, when fixed rates stay low for a few months,” Oliver says. “There’s a bit of an opportunity now for people who are nervous that when rates do eventually go up, they may not be able to service their loans as easily.”
Another reason why fixed rates are likely to rise is that the RBA is gradually taking its foot off the economic stimuli pedal, winding back some of its “unconventional” policies designed to dampen the blow of COVID-19.
ANZ Bank’s head of Australian economics David Plank, who has flagged rising fixed rates this year, says that as banks use up money they have been allocated under the RBA scheme, they will have to replace it with more expensive funding from wholesale markets.
Second, the RBA last year also promised to keep three-year government bond yields at 0.1 per cent – another unconventional move that helped to cut fixed-interest borrowing rates.
As time passes, however, the date when this promise will expire, and bond yields will be allowed to rise, gets closer.
Granted, none of these shifts is likely to cause a sudden surge in the cost of fixed-rate loans, which are still cheap by historical standards. However, the signs all indicate rock-bottom rates are likely to keep on edging up from here.
- Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that considers their own personal circumstances before making any financial decisions.