Think before switching your whole mortgage to a floating rate
In a dramatic change over the last couple of years, everyone’s moving to floating-rate mortgages. Is this a good idea?
For the first time since 1998, when the Reserve Bank started keeping tabs on this, floating mortgages outweigh fixed — albeit only just. A year ago, floating mortgages made up less than a third of the total, and just over three years ago, it was only 13 per cent.
What’s more, half the fixed rate mortgages have less than a year to run. If the current trend continues, a year from now floating mortgages will clearly dominate.
It’s not hard to see why people have switched. From 2002 until 2008, fixed mortgage rates were considerably lower than floating. But suddenly, in 2008, all rates plunged — from floating rates above 10 per cent and fixed rates above 9 per cent to around 6 per cent for both.
All was well for those whose fixed-rate terms happened to end around then. They could move to either a new fixed or floating rate, both much lower. But many people — caught with fixed-rate loans with several years to run — found themselves paying way higher interest than the current rates.
Some gulped and paid large early repayment penalties to switch to floating rates quickly. Others gritted their teeth until their fixed term has ended.
In the meantime, flxed rates have risen somewhat. Floating rate loans now seem to be the obvious choice. But are people overdoing the move to floating?
One clear advantage of fixed rate mortgages is that you know where you stand. At least those stuck on fixed rates in 2008 weren’t suddenly asked to pay more than they had managed in the past.
But if floating mortgage rates can drop from over 10 per cent to 6 per cent in less than a year, they can do the reverse too. If you are struggling to pay a 6 per cent floating rate now, could you cope if it rose several percentage points?
You might plan to switch from floating to fixed if rates start to rise, but how can you tell when they are rising enough to make that move? The first upward movement might be just a jiggle on a graph that then trends back down. You decide to wait and see if the next two mortgage rate changes are upwards, in which case you’ll switch.
The first change is up, but the next one is down a tad. Perhaps the trend is back down. You wait a bit longer. By the time you are convinced that rates are seriously on the rise again, and move from floating to fixed, the fixed rate is considerably higher than if you had switched months earlier.
The point is that nobody, not even the experts, really knows what way interest rates will move — let alone how fast and how far.
What to do? If you are in a fairly strong financial position, it’s probably best to make half your mortgage fixed and half floating. Then, whatever happens to rates, you’ll win some and lose some. It certainly beats losing the lot. To hedge your bets further, you might make some fixed for only a year or two, and some for longer.
If you are financially iffy — perhaps feeling uncertain about job security — it might be better to keep 60 or 70 per cent of your mortgage fixed. For you, the risk of floating rates rising fast is more of a concern than missing out on the advantages of floating rates falling.
Mary Holm is a freelance journalist, a director of Financial Services Complaints Ltd (FSCL), a seminar presenter and a bestselling author on personal finance. From 2011 to 2019 she was a founding director of the Financial Markets Authority. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it.