How to combat rising mortgage rates
Filed under: Mortgages
Half a year ago, the Bank of England confidently predicted mortgage lenders would increase their rates in early 2012. Time has proven it right.
Mortgage Advice & Info
Many people on standard variable rate (SVR) mortgages, and others looking for new short-term mortgage deals, will have seen their mortgages rise by half a percentage point or more.
Mortgage Advice & Info
Overall, around 10% of borrowers will already have to find hundreds of pounds extra a year.
Now, the Bank of England has said that "some further increase in mortgage rates is likely".
Why the Bank of England expects more mortgage increases
Banks don't just lend us money, they borrow money themselves to ensure they always have large enough reserves and so that they can meet any spikes in cash withdrawals. They also lend out far more than they've got in customers' deposits.
High-street banks can borrow at the Bank of England base rate. They have been able to pay a historic low interest rate of 0.5% for more than three years now.
However, banks that are short of funds also borrow from other banks that have excess cash.
At present, there don't appear to be many banks with much money to lend to their chums, so those that can are charging higher interest rates. Indeed, while the base rate has stayed the same, banks are charging each other between 20% and 80% more than a year ago, sometimes at more than double the base rate.
In addition, if banks are expecting interest rates to rise in general, this pushes up the rates they charge each other sooner, in a partially self-fulfilling prophecy.
All these costs are passed on to us customers.
For more, check out Eurozone crisis pushing up mortgage rates.
Customers can also push up prices
I'm worried that many borrowers with not much wiggle room in their budgets have been too complacent.
I've been warning for the past few years that mortgage rates can rise before the Bank of England increases its base rate, and more swiftly too. The small increase we've just seen is a gentle demonstration of that.
Lenders increase mortgage rates for plenty of reasons, such as the cost of borrowing from each other and because they expect rates to rise in the foreseeable future.
Customers can also push up prices more rapidly. If we all simultaneously believe mortgage rates are due to rise, hundreds of thousands of us might suddenly go for long-term fixed deals at the same time.
Few taking part in that surge should expect to get the cheapest deals. Lenders will close them down when they rapidly hit their targets. Many customers might not even get the next best price, or the third best.
As quick as you might be to apply, your application form might be buried so far down the pile that by the time you find out what mortgage rate you can get, you have a dilemma: do you fix at that much higher price you're offered, or hang on to the rollercoaster of short-term mortgage deals and standard variable rates?
My view is unchanged
Today, there is no such dilemma. As I have been writing for the past couple of years, ten-year fixed rate mortgages cost around half the average mortgage rate of the past 40 years or so.
These mortgages are dirt cheap. Imagine paying less than half the interest rate on your mortgage than your parents did on theirs. You're looking at saving thousands of pounds in comparison, perhaps tens of thousands.
Ten-year deals offer you all that with no risk of an increase, and no gnawed fingers every two years as you try to guess the future. If, in your circumstances, you can fix for ten years, you should strongly consider it.
Five-, six- and seven-year deals come with less safety but are even cheaper, so they make good alternatives if you have issues with fixing for ten years.
I make no forecasts
Let me be clear: I'm not predicting mortgage rates will sky rocket soon, especially with the International Monetary Fund calling on the Bank of England to be ready to lower its base rate even further.
Nor am I saying that long-term deals will save you more than short-term ones over the next decade.
I make no forecast whatsoever. It's too difficult.
But, if there's ever a time to buy a long-term fixed rate, I think it's now, when they're at historical lows. That's a fact, not a prediction.
An alternative to long-term fixes
If you can't fix for ten years or even five years, or you just don't want to, a great alternative is to use this opportunity, before further mortgage rate rises, to overpay your mortgage, or to save a pot in order to do so in the near future.
For each £1,000 you overpay this year, you'll probably save an extra £500 to £1,200 in interest payments over the course of your mortgage, if you've still got more than half to go.
Bear in mind that you'll probably be better off overpaying your other debts first, because they have higher interest rates.
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