At just 0.1 per cent, our official cash rate is mind-bogglingly low. And based on the minutes of the latest Reserve Bank of Australia meeting, it’s expected to stay this way for years to come.
However, while it’s clear interest rates will remain at these levels for some time, what is less apparent is the impact on property and how rates will affect borrowers looking to either refinance or buy in as an investor or owner-occupier.
Will this incredibly miniscule interest rate serve as a stimulus set to lift activity, or will the heavy drag currently placed on the economy stifle any chance the markets might flex in response to cheap borrowing?
Historically, the RBA’s cash rate had been a significant influence on Australia’s real estate markets.
However, in recent years, lowering the cash rate has had less and less impact, failing to deliver the bump in consumer spending that is, traditionally, the engine driving economic growth.
This lack of efficacy has led the RBA to reach for unconventional monetary policy tools including quantitative easing (sometimes simplistically known as ‘printing money’ or buying assets, such as government-backed securities or bonds) and forward guidance (giving an undertaking about what needs to happen before the rate will be lifted).
Also, RBA Governor Philip Lowe has given clear forward guidance, indicating in the latest minutes of the RBA Board meeting that the decision to lift, hold or lower rates would be based on actual inflation, employment and underemployment figures rather than projections.
Use of these additional tools demonstrates that the RBA no longer consider simply lowering or raising rates to be influential enough on markets and the economy.
Seizing upon opportunities for cheap credit
This low-interest environment, along with the use of unconventional monetary policy, is creating a world of opportunities for mortgagors, both those looking to re-finance and those who are considering a purchase.
For homeowners paying off a mortgage who’re perhaps facing financial stress, there’s the prospect of renegotiating their mortgage rate. Fixed interest rates have fallen to their lowest levels ever, hovering around just 2 per cent, which is lower than the variable rate offered by many banks (around 2.7 per cent). For most, this would mean many thousands saved on the cost of the mortgage. This rare alignment of mortgage planets should not be ignored.
However, a word to the wise – if you’re looking to make the switch from variable to fixed, make sure you get the advice of a qualified mortgage broker. Lenders look for certainty and offering a fantastic fixed rate is one way of locking in customers, but a fixed rate comes with conditions and it’s best to get the advice of an expert before you jump in feet first.
For the second group – those wanting to purchase in a low-interest environment – there are certainly good buys to be found in property markets. The limiting factor is often not the will of purchasing, but restrictions on how much (or even if) they can borrow.
Banks are – for the moment – limited by responsible lending criteria and new COVID conditions may present risk in your application that the bank is unable to parse, causing them to reject your loan application.
A good mortgage broker can offer valuable advice here, giving clear insights and tips for the application process that help with assessment criteria.
Good news on the horizon
While there are myriad factors at work when trying to forecast property market movements, one of the key influences is free-flowing access to credit.
During the past half decade – particular in the wake of the Royal Commission into Banking and Finance – there was an insistence banks toughen their loan approval criteria in order to lower default risk, but many now feel the pendulum has swung too far. Borrowers are being knocked back on loan applications for reasons that would have been deemed inconsequential just a few years ago.
But 2020 has delivered a different set of circumstances. We need the economy to get moving and property markets make up a huge component of our nation’s fiscal position.
Opening the gates a little wider and making loan approvals more accessible to an increased number of borrowers would help.
And the signs are good. Treasurer Josh Frydneberg announced in September that he would overhaul the laws governing mortgages, personal loans, credit cards and payday lending.
“As Australia continues to recover from the COVID-19 pandemic, it is more important than ever that there are no unnecessary barriers to the flow of credit to households and small businesses,” said Mr Frydenberg. “Maintaining the free flow of credit through the economy is critical to Australia’s economic recovery plan.”
This is essential for a housing market bump and will help those investors who may be a marginal credit risk under current, tougher guidelines.
The questions as to whether consumers have access to affordable credit was also addressed by Governor Lowe in his CEDA speech on November 20 this year when he said:
It is a complex picture here, with the market simultaneously adjusting to: a recession; lower population growth; record low interest rates; substantial government incentives to support residential construction; and changes to the way that people work, shop and live. So, there are a lot of moving pieces at present and the effects are very uneven across different types of property and across the country.
To date, the demand from investors in residential property has been subdued, but it is possible that low interest rates will change this. This is one of the many areas that we will be watching carefully in the period ahead.
There is no doubt that the ingredients are there for strong market growth in 2021. But the pandemic does make for uncertainty around forecasts.
Key will be to avoid unnecessary risks and make sure a good mortgage broker is by your side, helping with what will be one of the biggest financial decision of your life.
If you’re in debt, with too much home loan debt, in particular, start doing your numbers on a cash rate of interest going from 0.1% to 2.5%. That would be about five quarter-percent interest rate rises from your lender and industry experts think that the top rate of 2.5% will show up in 2024.
But what will be the repayments effect? The SMH has done the numbers:
- An increase to 2.5% would lift the repayments on a $750,000 mortgage, the current average loan for an established house in NSW, by $1,004 a month or $12,048 a year.
- At 3.5%, home loan repayments would climb by $1,468 a month or $17,616 a year.
- On the average $634,000 Victorian mortgage, a 2.5% cash rate would increase repayments by $849 a month or $10,188 a year.
- At 3.5%, monthly repayments would be $1,241 higher. Over a year, they’d be almost $15,000 more expensive.
These huge jumps in repayments could really rattle the economy and cause a recession.
If anything is going to create a recession, it would be an escalation in the home loan interest rate because it would take a hell of a lot of buying power from consumers. And that would not only hit consumer spending — buying new cars, going on holidays, renovations, etc — it will drag down home prices.
This would then make consumers feel less wealthy and that reduces spending again.
But wait there’s more, and it gets worse.
Those who have overborrowed will try to sell their homes to get out with their capital gain. They will think that house prices will fall so they’ll want to sell at a profit and buy into a cheaper home market.
And they will be right in trying this but others will be rushing for the exits out of the property market at the same time and prices will fall even faster in what will be a buyers’ market for real estate. Right now, it’s a sellers’ market.
This is a blow-by-blow explanation of how a recession or a serious economic slowdown happens. So when the RBA raises rates is going to be critically important. Also, how fast they raise rates and how many they hang on us, will determine if we end up in a recession.
RBA boss Dr Phil Lowe wants the cash rate back at a sensible 2.5%. That would mean home loan rates will be about 5% and term deposits will be 3%+, which would be good news for cautious savers.
The experts in the financial markets think the rate rises start in the middle of next year, while the CBA says November, but Dr Phil is still hanging on to a 2024 start date!
What’s he smoking? If he ends up being right, I want some!
Dr Phil wants inflation in the 2-3% band, closer to 3%, because he wants wage rises, which will be good to create a sustainable economy. Of course, if he’s right about the start date for the rises i.e. 2024, that means the threat of recession isn’t really a clear and present danger until 2025 or 2026.
I hope Dr Phil is on the money. Some respected economists think he’s in ‘la la land’ on when rate rises will start.
The CBA thinks the first rate rise will be November 2022. Other money market experts say mid-2022.
I think Dr Phil will hang out until 2023, but the strong economy next year could force his hand.
But, like rock musician Eric Clapton, the good Dr will play rates with a slow hand because if he doesn’t, we will see a recession earlier than currently expected.
Intuitive Finance – the smart choice
The world of banking and finance can be a pretty daunting one for both novice and sophisticated investors and since our establishment in 2002 we’ve focused on providing outstanding service and business standards.
This approach was vindicated when we were named Victoria’s Best Finance Broker at the 2017 Better Business Awards.
So if you’re considering investing in, or developing, property, why not contact Intuitive Finance’s mortgage brokers today to ensure you have the right information and expert support on your side no matter what stage of the property ownership journey you are on.
The information provided in this article is general in nature and does not constitute personal financial advice. The information has been prepared without taking into account your personal objectives, financial situation or needs. Before acting on any information you should consider the appropriateness of the information with regard to your objectives, financial situation and needs.