Should I fix long or short term in the current market (or even float)?

Age old questions, how long do I fix for and how do I decide what interest rate strategy is most appropriate for my circumstances?

There are many variabilities deciding on a fixed rate and equally many different circumstances. In the absence of a trusted Adviser, it can be quite the dilemma pondering what fixed interest rate(s) to choose or even to float; in the knowledge that interest rates are currently in a depreciating cycle noting OCR and inflation peaks have been and gone.

In the current market we are observing interest rates at the main banks between  6.79% for 6 months, 1yr 6.19% through to 5.59% for 5yrs – but just because the five year fixed rate is 1.2% cheaper, doesn’t mean this is the most financially advantageous move to make and/or if it makes sense for your life circumstances, for example you may wish to sell a property in 2yrs and interest rates could decrease considerably leaving you susceptible to break costs that can be notoriously expensive.

Then there’s anomaly loss leading offers such as a recent offer of 5.99% for 6mths or 12mths for 5.59% on 6 September 12, 2024, which at a prima facie glance seems a no brainer to refinance onto this rate without much thought. But as they say however, “there is no free lunch” or “the grass is never greener” and in the fine print, this specific offer excludes investment properties and is not available for their existing clientele. Not to mention the inevitable lengthy wait times to implement and a far less certain option that explicitly excludes specific clientele who may otherwise presume eligibility without further investigation.

-From prior experience the actual time cost of investigating such outlier promo’s/one offs can negate savings (if you even get approval and progress)

It brings us back to how do we make sense of all the noise to work through what’s right for you and your mortgage strategy?

We like to talk numbers but not get too carried away!

In basic numbers the annual interest cost of a $1M home loan fixed for 1yr at present is c$61.9K per annum and on the 5yrs rate is $55.9K. So why don’t I just jump onto 5yrs fixed right now and save $6K per annum?

It’s all to do with future rate movements, for example, if the 1yr fixed rates move to 3% in year 2 of your 5yr fixed loan at 5.59%, you’re losing $25.9K additional interest for every year the 1yr fixed remains at 3% whilst you complete the 5yr commitment made! If it stays at 3% for the remaining 4yrs that’s $103.6K down the drain! So, suddenly, the $6K savings in the first year doesn’t look too agreeable at this point.

This is a somewhat extreme example but illustrates the principle of interest rate movement risk – in year two of the five year fixed for example, the rate only has to move to 4.99% to wipe out your initial $6K of savings and will cost you $18K in the long run if the average 1yr rate remains at 4.99% (accounting for the zero sum of the first two years).

-Sounds strange to have a rate as low as 4.99% as of September 2024 but it was not that long ago when 4.99% was at a premium (think 3yrs prior 2% rates)

-There’s always the exception as some individuals do not mind paying for insurance or certainty of repayments over 5yrs which is a unique decision and, in some instances, preferable to pay for certainty – for example, a nominal loan balance with 5yrs remaining on the mortgage (go you!) and want to ensure full repayment within the 5yrs whilst your budget supports comfortably. This is a sound example of a 5yrs rate being advantageous as you are certain the repayments you make over 5yrs will conclude your mortgage.

So how do I compare two rates?

Think averages – or what is the interest rate that a rate would need to increase or decrease to that averages the rate I’m considering fixing for if purely driven by price? For example, consider the 1yr and 2yr fixed rates being 6.19% and 5.69% respectively at present.

If considering fixing for 2yrs at 5.69%, what would the alternative 1yr rate need to decrease to after the first year at 6.19% to make it worthwhile to fix for 2yrs today?

-If you are of the view that the one-year rate will not decrease below 5.19% after the first year on 6.19%, then you fix for 2yrs as you are saving money fixing for two years if you are correct

-If you are of the view that the one-year rate will decrease below 5.19% after the first year on 6.19%, then you fix for 1yr as you are savings money fixing for 1yr if you are correct

If that’s a bit confusing, not to worry, we have tools which do all the heavy lifting for you so you can compare across all interest rate terms to formulate some objective analysis and make informed decisions on interest rates – we’ve got you covered and can discuss further in person all else fails!

How about floating?

Floating is the same principal as deciding between two fixed loans and the average rate that you are hoping for the future fixed rate (or future floating) to decrease to recover your costs up front of leaving your loans on floating whilst awaiting rates to decrease.

-There may be other reasons to remain on floating outside purely price (such as negotiating a retention package with your bank and entertaining a competing bank offer but that’s a different story for another day).

-You also have more flexibility in making penalty free lump sum payments which is another option if you have savings or inheritance imminent to credit your loan with a lump sum payment which can also save time (see our time savings calculator)

In general, at present the cost of being on floating is not more financially advantageous than re-fixing immediately given the more gradual decrease in fixed lending 

Do we have a crystal ball?

I’d love to say yes but in reality, no one knows future interest rate movements (if they tell you they do, run!).

You can have educated guesses and formulate your views accordingly, read/listen to economic commentary/podcasts and study the consensus which all helps formulate your view, but no one will ever know the future of interest rates with 100% certainty and is completely your call in which way you view rates to move in deciding your interest rate strategy. 

In summary

Everyone has differing interest rate requirements and might not necessarily be a cost rationale for choosing one interest rate over another or to remain on floating or not. There are advantages and disadvantages of any rate option but what is important is to think carefully when you are reviewing lending and in the least talk to a Financial Adviser who can quickly evaluate what is most appropriate for you – 10 minutes savings thousands.

At Hawkeye we have summary tools and market intelligence to empower you and make the most advantageous decision pursuant to your circumstance at the time which can change frequently.

Although no one knows the future of interest rates you can formulate your views and decide on the best rate to fix at based on those views and with some objectivity thinking about averages. At the end of the day there is no right or wrong answer, if we’ve taken the time to ensure we have thought about every angle prior to rushing into any rate commitment you’re already winning. 

Fine print

This article is not financial advice, is informational only and should not be considered as formal advice if considering any of these discussion points. Interest rates, break costs and other costs can change without notice, so is important to discuss directly with us to deliver formal advice unique to your circumstances.