The prospect of the Reserve Bank of Australia raising the cash rate in May has prompted a spike in queries about fixed loans from borrowers and reinforced expectations that property prices will fall, including in Melbourne and Sydney where they may already have peaked.
Traders have priced in a lift in the RBA’s cash rate to 0.25% at its 3 May meeting after Wednesday’s March quarter inflation data was much higher than forecast.
Most banks, with the exception of the Commonwealth Bank, say the central bank has no choice but to raise the rate from a record-low 0.1% after consumer prices rose the most in more than 20 years.
Sally Tindall, research director at RateCity.com.au, said her firm on Thursday had received “lots of inquiries about fixing and whether now’s a good time to fix on the back of [the] CPI figures”.
What is happening with fixed-rate loans?
According to the Australian bureau of statistics, the share of loans taken out with a fixed rate peaked last July at 46% and had shrunk to just above one in four by February. Tindall said it was too early to tell whether any short-term jump in fixings would last.
Tindall said the big four banks were still offering variable rate loans averaging 2.14% compared with three-year fixed loans of more than 4%.
“If you’re someone that’s going to stay up late all night worrying about what the RBA might or might not do, then fixing can buy you peace of mind,” she said. On the other hand, those able to make significant extra payments or who might be thinking of selling or refinancing, “might be better off on a variable rate”.
Gareth Aird, a senior CBA economist, said markets typically lead the central bank in a tightening cycle, as has happened this time. Banks had been raising fixed rates since October.
One factor was the end of the RBA’s term funding facility in June. It was set up to ease Covid impacts on the economy and that allowed banks to borrow at a 0.1% rate for as long as three years. “That underpinned these incredibly low, fixed rates,” Aird said.
“The market is [also] pricing in significant RBA tightening, and therefore fixed rates have risen to reflect that.”
For instance the National Australia Bank, the country’s third-largest home loan lender, raised fixed rates last week for the fourth time in 2022, including lifting the rate on a standard five-year loan by half a percentage point to 4.99%.
Some loans, such as those for four years, have increased almost 3 percentage points in less than a year, RateCity said.
Borrowers, meanwhile, had already returned to fixing loans with shorter maturations, CBA data shows.
From CBA last month, showing that borrowers if fixing are doing so very much for shorter durations. May see that change a bit after the CPI spike. pic.twitter.com/IyBqEMWCZL
— Peter Hannam (@p_hannam) April 28, 2022
What about variable loans?
RateCity’s Tindall said competition between lenders meant variable loans can still be obtained at sub-2% annual rates.
“There are 32 lenders on our database that have at least one variable rate for owner occupiers under 2%,” she said. “They’re entitled to refinance to someone offering them a better deal and there are still some cracking variable rates out there.”
Analysis by CoreLogic showed higher rates will have a varying impact across the country depending on the size of the loan. Sydney, with the most expensive median prices at more than $1.1m, would see the biggest increase in repayments.
Tim Lawless, CoreLogic’s research director, said the central bank was not yet worried about the ability of most mortgage holders to absorb the repayment pain.
“The RBA has recently noted in their latest financial stability review the median repayment buffer for owner occupiers with a variable mortgage rate had grown to 21 months of scheduled repayments in February 2022, up from 10 months at the start of the pandemic,” Lawless said in a report released on Thursday.
“With a two-percentage point rise in interest rates, the median repayment buffer would reduce back to 19 months, which is still substantial.
“With the median household well ahead of their mortgage repayments, the risk of households falling behind on their mortgage repayments is reduced.”
Those on fixed rates would be insulated from the immediate rise, but face “a refinance shock” when their loan period expires, Lawless said.
For those who are risk-averse about the future of interest rates but also want to have some flexibility, a split mortgage with elements of both fixed and variable rates may be the way to go, Tindall said. Break fees should also be taken into account.
How will this affect property prices?
CoreLogic, RateCity, and CBA’s Aird all predict house prices, if they haven’t already peaked, will start to decline as interest rates rise.
The RBA has said as much too, forecasting recently that a 2 percentage point rise in rates would lop an estimated 15% off real housing prices.
“A larger fall of 20% could take national housing values back to similar levels as June 2017, while a smaller 10% drop would see values at levels similar to June 2021 and a 5% drop back to September 2021 levels,” CoreLogic’s Lawless said.
He said in markets where housing values have been rising faster, such as Brisbane and Adelaide, a 15% decline would take housing values back to mid-2021 levels.
“While in Melbourne, a 15% drop could see values at a similar level as May 2017, or in the case of Perth, back to June 2009 levels.”
Aird said the extent to which house prices fall would be “heavily dictated by how quickly and how high the RBA takes the cash rate higher”.
“They’ll probably end the year around about flat given they’ve been going up in the first part of the year,” he said. “Next year, we’re looking for national home prices to end the year down around 8%.”
