When borrowing to buy an Australian property, lenders in Australia usually offer the opportunity to either take a floating (or variable) interest rate that will change from time to time, or to fix your interest rate for set periods of up to 5 years.
There are times when the fixed rate may become more attractive than the floating, and vice versa, and the main influence on how the rates are calculated usually comes down to two main issues, Expectation & Availability.
Expectation is quite simple, it is whether the “market” believes interest rates will rise or fall in the future.
Fixed rates do try and predict what the future rate will be. Issues like the current interest rate policy of the Reserve Bank and state of the local economy can influence interest rate outlook.
In the current environment, there is an expectation that Australian may experience another rate reduction during the coming year, so we can see this being priced in now. It does not matter if the rate reduction actually occurs, just that the market believes it may happen is enough.
Availability comes down to how much money the banks have in reserve ready to lend to prospective borrowers. During 2011 in Australia, lending output was soft as the property market was in the main procrastinating on their buy decisions, hence at the current time the Australian banks have too many funds on deposit and not enough lent out.
The bank finds themselves in a position that they have interest cost on the deposit but no revenue coming in. That reduces their profit and costs them money so they need to encourage more lending by in essence having a “sale” on the interest rate. Once the lending picks up and they are start making a profit on the lending margin, they will tend to be less generous with the fixed rate offerings.
A perfect situation for borrowers is when we see low interest rate policy from the Reserve Bank and low lending output from the banks. We saw this occur around March 2009 during the Global Financial Crisis when the 3 year fixed rates in Australia dropped to 5.19%pa.
The variable rate was also low at the time but not as low as the special fixed rates on offer, however there was belief that rates may reduce further which did not occur. Within 6 months the fixed rate had risen to almost 7%pa even though variable was still around 6%pa.
A combination of higher rate expectation, as the Reserve Bank continues to lift rates, and reducing availability, as more people took advantage of improved conditions and began to borrow once again, quickly shifted the fixed rate offering from low end to high end.
A similar situation will no doubt occur in Australia this year as activity picks up, even though the RBA is likely to hold rather than lift rates through 2012. This may mean that the fixed interest rate is an attractive option for any Australian property investor. To review your loan or check the current interest rates on offer visit our website at www.smats.net
