We are always asked our opinion as to which way lending rates will be moving next. Our standard response is to point towards the RBA statements and recent economists but politely dodge the question. As part of our credit licence we cannot give specific advice.
The trend by many borrowers appears to be to veer away from fixed rates. They have been fixing since 2009 only to see rates settle lower each time. So they are willing to have a punt and opt for a floating rate. It’s not only borrowers of home loans that are going along for the bareback floating rate ride, commercial and corporate borrowers are also ditching the hedge.
Firstly, let me address the home loan crowd. If you’re boss came and told you that your wage would fluctuate with the economic cycle – would you accept this? The right answer is no by the way. So why would you take a chance that your largest expense per month (that finances your largest asset) should also rise and fall with the vagaries of the domestic and/or global economic forces. Don’t do it.
What about the last six or seven years where rates have continually fallen off a cliff? I hear you ask. Well, every economic cycle comes to an end. We are now closer to the end of this one than we were when it began (I know, stating the bleeding obvious). So why take a risky strategy on your mortgage? Sure, this stagnant economy may last for another 20 years (or not) – do you want to take the risk?
When you’ve been around a while, you see many economists calling for rates to go up, down or do nothing. Many times they’re right. Particularly when they’re call correlates to prevailing trends. But each economic cycle has an X factor, an unknown that cannot be punched into an economic model (some recent examples are 9/11, China’s extraordinary rise, climate events, the GFC). So it could be that we don’t yet know what will effect the next economic cycle. Do you really want to take the punt?
At the very least you should be thinking about fixing part of your loan – unless you expect to pay it off in the next 2-3 years.
Commercial or corporate loans will depend on your business and the vagaries of your income line. One thing you should all note is that banks make a tremendous amount of money on hedging your interest rate. Often the profit on the hedge is greater than the profit on the loan. So, when your banker and the dealer visit you and apply a full court press, take a moment and call an independent party to see if what they say stacks up.
If your income is quite stable, then it may be worth your while to hedge a large percentage of your debt. If your income is stable during most of the year and you have extraordinary income due to seasonal factors you probably shouldn’t have term debt but if you do, you may want to consider fixing a smaller percentage of your debt while applying your seasonal windfall in reducing your debt overall (assuming your facility allows you to re-draw).