Your home loan rate – to fix or not to fix?

Locked_rates_2Home loan interest rates are at historically low levels, and 3 to 5 year fixed rates aren’t much higher than current variable rates. Should you lock them in?

Most people approach this question by trying to guess whether rates will go up or down from here. Our advice is: don’t do that. The current fixed rate is the market’s average estimate for rates over the period concerned, so unless you think you can out-guess the market, you should think about it from a different angle.

What are the benefits of a variable rate loan?

In short… they give you flexibility:

  • Most variable rate loans allow you to make extra repayments at no cost, so you can pay down your mortgage faster – which is the most powerful thing you can do to minimise the total amount of interest you pay.
  • Exit and break fees can be high for fixed rate loans but should be much lower for variable rate loans so you can refinance if you want to, or (sell up and) repay the loan if your circumstances change.

What about the benefits of fixed rate loans?

Basically, they give you certainty…

  • A fixed rate will make you immune to rate rises – at least for as long as the fix period, so if your ability to make the payments is on the tight side, this certainty may be worthwhile.
  • Household budgeting is easier when you know exactly what your repayments will be.

Are interest rates on the rise?

There’s been a bit of talk in media lately about interest rates rising by up to 2% in the next couple of years and relating this to the current appreciation of the Australian dollar.

The Reserve Bank of Australia sets it cash rate based on a number of factors but the arguably the most important is the Consumer Price Index (CPI), our measure of consumer inflation. The strengthening Australian dollar is likely to subdue consumer inflation by containing the price of imported goods.  This is complicating the RBA’s hopes to start lifting its record low cash rate in line with other global central banks.

Appreciating to just shy of US80c following last week’s Reserve Bank meeting minutes, the Australian dollar is at its highest level since December 2014.

Inflation is expected to remain below the Reserve Bank’s comfort zone when second-quarter CPI data is released on Wednesday. Despite a jump in vegetable prices due to damage caused by Cyclone Debbie, economists predict consumer prices rose just 0.4 per cent over the second quarter and 2.2 per cent over the year.  This is close to the bottom of the RBA’s comfort level for inflation.

Another important consideration for the RBA is the ongoing lack of wages growth which will continue to limit inflation, so sudden and dramatic interest rate rises seems unlikely in the short term and our consensus view remains that interest rate rises will likely begin towards the back end of 2018.