Bank rate cut no suprise but only a limited pleasure

Posted on 7 February 2008

Market Comment

“The increasingly worryingly economic situation made this month’s bank rate cut all but a certainty.  With the Monetary Policy Committee (MPC) receiving significant criticism for not cutting the rate for a second consecutive month in January, after a unanimous vote for the December cut, together with discussion on whether a 0.5% cut might be necessary to achieve economic stability, there was never any real doubt on the outcome of today’s meeting.  However, the MPC is effectively now running hard to stand still.” comments Ray Boulger of John Charcol.

 

“The bad news for the UK’s mortgage borrowers is that bank rate cuts are increasingly less of an influence on their pockets, at least in the short term.  With 55% of borrowers on a fixed rate, lenders performing a double-whammy in choosing not to pass on the bank rate cut in full on their Standard Variable Rate (SVR) and also increasing the margin over Bank Rate on their new tracker mortgages, this cut will have limited impact.

 

“Around 20% of lenders did not pass on the whole of December’s rate cut and I expect the proportion to be higher this time around.  We find ourselves in this situation as lenders’ margins, the difference between the cost to them and what they charge the consumer, are at the highest they have been for a very long time.  After the very steep increase (to over 1%) in the Bank Rate/Libor spread as recently as December this spread has now fallen back to 0.09%. Savings rates are still high but also off the top. Lenders’ funding costs for their tracker mortgages are primarily based on these rates and so, although, because of the liquidity squeeze, they are still paying higher than normal rates compared to Bank Rate, their average cost of funds has fallen significantly since the New Year.

 

“However, the dire shortage of funds available for mortgage lending, and the consequent lack of competition, means that those lenders that do have money to lend have been forced to increase mortgage rates, and of course their margins, just to control the avalanche of applications that met the launch of any reasonably competitive rate. To not do so would have lead to a service melt down, a problem that caused some major lenders serious embarrassment in the last quarter of last year.  The suggestion last week from the Institute of Fiscal Studies and David Miles of a Fannie Mae style government backed agency to address the current short-term funding crisis appears to have considerable merit and The Treasury should give it serious consideration.”

 

So what should borrowers do Ray?

“This week, Nationwide and Intelligent Finance are the latest major lenders to bump up tracker rates, by as much as 0.4% in some cases. Unless the liquidity crisis eases, the likelihood is that lenders will continue to increase their margins, just to control the flow of new applications, although the beneficial impact on the bottom line is of course not lost on them.  Consequently, whilst borrowers who took a tracker rate before the liquidity squeeze will benefit in full from today’s Bank Rate reduction, today’s cut will be fish and chip paper for new borrowers, merely compensating them for the increase in tracker margins lenders have hit them with.  If the liquidity squeeze continues for much longer we will need further 0.25% Bank Rate cuts just to stop the actual rates new borrowers are charged from increasing.”

 

“Ironically, however, Swap rates have been reflecting the expected drop in Bank Rate to at least 5% for a few weeks, as a result of which the best fixed rates look reasonably attractive compared to trackers, despite expectations of at least one more Bank rate cut in the near future.  However, flexibility remains paramount in an uncertain market, so an ERC (Early Repayment Charge) free tracker, or one with a drop-lock option, is also a good choice in the current market, leaving borrowers the option to switch to a fixed rate at a later time when they may well offer even better value than today.”

 

Payment Table

This table shows how much a monthly payment will be, for both interest-only and a 25 year repayment mortgage, for the amounts shown.

 

Rate

£100,000

£200,000

£500,000

£1,000,000

I/O

Repayment

I/O

Repayment

I/O

Repayment

I/O

Repayment

4.5%

£375

£556

£750

£1,112

£1,875

£2,779

£3,750

£5,558

4.75%

£395

£570

£790

£1,140

£1,975

£2,851

£3,390

£5,701

5%

£416

£585

£832

£1,169

£2,080

£2,923

£4,160

£5,846

5.25%

£438

£599

£875

£1,198

£2,190

£2,996

£4,380

£5,992

5.5%

£458

£614

£915

£1,228

£2,290

£3,070

£4,580

£6,140

5.75%

£479

£629

£958

£1,258

£2,395

£3,145

£4,790

£6,291

6%

£500

£644

£1,000

£1,288

£2,500

£3,222

£5,000

£6,443

6.25%

£520

£659

£1,040

£1,319

£2,600

£3,298

£5,200

£6,597

6.5%

£541

£675

£1,080

£1,350

£2,705

£3,376

£5,410

£6,752

6.75%

£562

£690

£1,125

£1,381

£2,810

£3,455

£5,625

£6,909

7%

£583

£706

£1,166

£1,413

£2,915

£3,533

£5,830

£7,068

7.25%

£604

£722

£1,208

£1,445

£3,020

£3,614

£6,040

£7,228

7.5%

£625

£738

£1,250

£1,478

£3,125

£3,695

£6,250

£7,390

7.75%

£645

£755

£1,290

£1,510

£3,225

£3,777

£6,450

£7,553

8%

£666

£772

£1,312

£1,543

£3,330

£3,859

£6,660

£7,718