Rate hike is not far away

9th of September 2013 | by Laine Gordon

Australians should get ready for interest rates to increase as early as next year, with new data signalling some relief for savers but bad news for mortgage holders.

An analysis by Australia’s leading financial comparison website, RateCity (www.ratecity.com.au), has found the gap between fixed and variable rates is narrowing – a strong indication that lenders think rates are close to bottoming out.

Alex Parsons, CEO of RateCity, said fixed interest rates were one indicator used to gauge market sentiment as fixed rates typically moved one step ahead of the cash rate and therefore variable rates.

“Since before the first round of rate cuts in November 2011, fixed rates have been consistently tracking at around 1 percentage point below standard variable rates,” he said.

“When banks ‘price’ fixed rates significantly below variable rates, it suggests they expect rates to fall further. This month, though, the gap has narrowed to 0.79 percentage points, indicating that the chance of further rate cuts is less likely.

“We know that most people are on discounted variable rates with the major banks, which are usually around 0.70 percentage points lower than advertised rates, meaning fixed and variable rates are almost on par – in other words the gap is closing.

“Our data suggests there is one more cash rate cut on the horizon this year and we’re betting on a Melbourne Cup day cut in November.”

Parsons said that with interest rates at all-time lows, it’s inevitable that rates will start to rise and while it is too early to call when this will happen, it is not inconceivable that this could happen as early as 2014.

“We know fixed rates usually start rising well before variable rates, and borrowers often miss the lowest point. After all, the banks have a far better chance of predicting future rate movements than the average punter.

“Based on this logic, borrowers who are interested in fixing should keep a close eye on rates over the coming months and be ready to act on signs of fixed rates increases. Fixed rates are available from as low as 3.99 percent for 1 year terms, while variable rates start at 4.49 percent.”

Parsons warned borrowers against overstretching their budget and urged people to prepare financially for the possibility of higher costs of servicing a loan.

“Interest rates are at record lows and for many young Australians the prospect of buying their first home is suddenly a reality.

“But borrowers should prepare for the eventuality of higher interest rates in the future and make sure they could comfortably afford to service the loan if rates increased to the historical average of around 7 percent or even higher.

“We typically suggest borrowers commit no more than one third of their income to repaying the mortgage, any more than that and they could find themselves in mortgage stress.

“It’s really important that borrowers don’t overstretch the budget because this can only lead to tough times when rates eventually do increase.”

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