Yesterday I was having a beer with fellow golfers after a rare round of golf. The beer went down well but the conversation was a little strained. You see we were talking about interest rates and I was expressing my heartfelt concern for first home buyers, and anyone who was suffering from the dramatic increase in home loan interest rates over the last few months.
In what seemed to be a throw away line or at least an insentitve nod to the younger generation, one of the players remarked that “interest rates were still low compared with what they have been in the past”. I maintained that although this was a fact, it was irrelevant when discussing the capacity to obtain or service a home loan in todays economic climate. Many people are finding it tough and need to find a way out of their cash flow predicament.
But it is true. what we face now has been faced many times before.
To understand why, a starting point is to look at a graph courtesy of Orange Mortgage Brokers
You will see that the variable rate tracks above the inflation rate, which in turn has predominately determined the variable rate historically. A rudamentary explanation of why this is so, is that the inflation rate influences the cash rate or cost of borrowing for banks, and the gap between variable rate and inflation is a measure of bank margin on lending (not precisely but it does sit somewhere between the 2 lines).
If inflation goes up, variable rates increase. If inflation goes down, so does variable interest rates.
The RBA has one lever to react to inflation and that is to adjust the cash rate. When the RBA raises the cash rate, the banks maintain their margin and raise the home loan interest rates. Aside from trying to find a cheaper rate, there is no remedy for the borrower. i.e. you
What can you do?
Change your home loan package
If fixed rates are increasing, look at the forecasted inflation rate and it will be increasing. Banks are anticipating an increase in borrowing cost. If fixed rates are decreasing, then it is likely that the inflation rate is coming down and interest rates will be as well. In this situation it is not a good time to fix. See your mortgage broker before you make any change to your home loan package.
In the graph above, note the upswing in the 3 year fixed rate. This means that there is probably rate increases to come and you should be prepared in the household budget to pay more for your loan(s). The 3 year fixed rate is now higher than the variable rate offered by some lenders. The banks are forecasting further increases.
Dont panic because there are early signs that inflation is slowing and that the RBA may ease off with rate increases in 2023. Either way take care with your spending if you are struggling with loan repayments.
Get your 2022 Tax refund
If you have not done so, ask your accountant to process your tax return for 2022. If you are in tax refund status then great news, the ATO will put this into bank within 14 days. If you are in a tax payable situation, the tax will generally not be due until May 2023, and you can plan this in your budget.
Look at your assets and lifestyle
Our exit from COVID versions 1,2 and 3 and a surge in spending on lifestyle is a big contributor to inflation. Maybe its time to shed unwanted lifestyle assets and put the cash away into savings until this latest wave of home loan interest increases abates.
In Sydney it is likely that real estate will bounce back in late 2023/24 so hold on to real estate. Now is not the time to be divesting of property (if you can afford the repayments). Instead sell your boat, bike or jet ski, because they are decreasing in value anyway and you wont pay tax on the proceeds.
First Home Buyers
If you are conteplating buying your first home, then you will be experiencing the frustration of the interest rate increases as they erode the amount that you can borrow. This is annoying,
as you line up a property, get your finance in place, then the RBA hikes the rate and the bank revises down the amount that you can borrow.
I suggest that you wait it out until this rate process unfolds. Once the RBA gets on top of inflation, rates will start to fall, and the amount that you can borrow, and the property value you can buy will rise. I would move as quickly as you can when this starts to happen in the market. Speak with a broker and get your finance in place.
Well thats it from me this month.
I wish you and your families a happy christmas and a prosperous new year.
Peter Cox
PS I have no affiliation or business connection with mortgage brokers (or purchasers of boats, bikes and jet ski’s)