It’s time for a closer look at the pricing of mortgages.
Mortgage interest rates are not generally particularly newsworthy so when rates get plastered all over the news as they have been lately, you know something unusual is happening.
We are often asked by clients why mortgage rates rose so sharply prior to the latest Bank of England base rate increase, and now the market has thrown up the anomaly of mortgage rates decreasing even as the base rate continues to rise. This article looks at how mortgages are priced to help explain how this seemingly contradictory situation has arisen, and how borrowers should react.
Interest rate roulette?
If you go back to the notorious mini-budget announced on 17 September this year, interest rates were already rising. It is also worth noting that before the recent historic lows, rates have always moved on a regular basis.
Regardless of previous rate movements, the ex-chancellor Kwasi Kwarteng’s ill-fated mini-budget was simply seismic for the British economy, with huge repercussions for homeowners, in terms of rapidly rising mortgage rates.
A calmer outlook
However, it appears that the shockwaves generated by the Truss premiership’s contentious economic policies are calming down, with Rishi Sunak and Jeremy Hunt taking the helm at 10 and 11 Downing Street.
The new Chancellor has taken swift remedial action to mitigate the volatility unleashed by Truss’ controversial approach to the economy, reversing some of the planned tax cuts and spending plans that characterised the previous Chancellor’s much-maligned “Growth Plan”.
As a result, it appears that the cost of fixed-rate mortgages have thankfully started to stabilise, despite the Bank of England raising the base rate to 3% on 03/11/2022.
Fixed rates are down, but variable rates are still rising
According to Moneyfacts, the average 2 year fixed-rate mortgage has decreased from 6.65% on 20/10/2022, to 6.49% on 03/11/2022. As of 09/11/2022, this averaged figure is now 5.83% – a very positive move for prospective homeowners.
Many commentators are hopeful that such figures will gradually decrease; provided that the Treasury’s autumn statement, due to be released on the 17/11/2022, does not significantly upset the markets again.
Not all of the developments have been positive, especially in these extremely turbulent economic times. The average cost of variable-rate mortgages is increasing, in line with the Bank of England’s base rate rise, and there may be further base rate rises to come.
Although variable-rate mortgages are almost always cheaper than their fixed-rate equivalent they entail a certain amount of risk. Throughout the past year, monthly repayments for tracker mortgages on average have increased on nine separate occasions from £572 per month to £791 per month.
Remortgage with a new provider or stay with the same lender?
It is more important than ever for homeowners to take into consideration that – due to these unprecedented hikes in rates – the difference between a product transfer (getting a new product with your current leader) and remortgaging (switching to a new lender), has now become negligible. Traditionally, remortgaging in general, would be the cheaper option; however, in some specific circumstances, this has actually been turned on its head.
Ultimately, if you are thinking about getting a new deal – especially if you are a contractor – it is imperative that you get advice to ensure you are making the right choice for you. The experienced mortgage consultants at Cleerly will be able to clarify all aspects of options and guide you accordingly.
So how did we get here?
Whilst mortgage rates have recently become widespread news, very few outlets having taken the opportunity to explain the technical aspects of how they are priced.
The sourcing of funds plays a fundamental part in the rates being charged. Banks and building societies can use funding generated by savings (in the form of deposits) as well as money borrowed on the wholesale market. The cost of borrowing on the wholesale market changes quickly due to the wider economic context and outlook, which goes beyond the simple mechanics of the mortgage market.
The impact of gilt yields and swap rates on mortgage costs
Swap rates are the interest rates at which lenders lend to each other. Swap rates are ultimately based on market sentiment, which is often expressed in changes to gilt yields. Gilts or “gilt edged securities” are bonds issued by the government to finance its debt and the yield is the interest rate paid to owners of the gilt relative to its cost.
If the economy is performing poorly and market confidence in the government’s ability to pay its debts declines (such as after the September mini-budget announcement), gilt yields will rise. This happens when holders of government debt look for higher interest on their “loans” to compensate them for the perceived additional risk.
Gilt yields are a leading indicator for swap rates and therefore mortgage rates. Consequently, both gilt yields and swap rates can fluctuate widely even during a single day.
How mortgage rates are set
When pricing fixed rate mortgages, lenders predominantly use the cost of swap rates to set the relevant costs to you and I. Recently we have seen severe volatility in the swap rate market which has led to lenders pulling rates and repricing them with no warning.
To put things in perspective, two-year swap rates have risen nearly 5% in the last 12 months, compared to an increase from 0.1% to 3% (2.9%) for the Bank of England Base Rate.
Who to turn to?
With the current political and economic uncertainty, we see a mortgage market that is very unpredictable, which requires your broker to be agile and respond rapidly.
Timing is more important than ever during these volatile times, Cleerly is here to guide you through the uncertainty and ensure you end up with the very best option available in your situation.