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When the two year swap rate was last at Monday's level, that was back in May 2010 and the two year fixed mortgage rate was 7.30%. Who says it won't go back to that level?

Banking / analysis
When the two year swap rate was last at Monday's level, that was back in May 2010 and the two year fixed mortgage rate was 7.30%. Who says it won't go back to that level?
sticker shock
Image sourced from Shutterstock.com

Home owners rolling over fixed rate mortgages this coming week face some sticker shock. But they don't face as much as they could because bank margins have become very compressed.

How long they will stay compressed is anyone's guess.

Wholesale swap rates are rising very fast now, almost too fast for banks to keep up. These couldn't really come at a worse time for them because their main use for the funds they want to lend (and need to hedge) is in the housing market that is currently struggling to expand.

The tables below show just how much wholesale swap rates have risen, and how the biggest restraint is for two year fixed mortgages. This is also the biggest risk for homeowners when that restraint ends.

Moves last week started by ANZ, and followed by ASB and Westpac suggest banks generally are ambivalent about building back margin in this tight market. ASB and Westpac didn't rise as much as ANZ. And BNZ and Kiwibank have yet to move. We do expect them to move very soon - perhaps even before we have finish drafting this analysis.

Here is how things stand for borrowers who took out a one year fixed rate mortgage a year ago:

    ANZ ASB BNZ Kiwibank Westpac
1 year            
27-Sep-22 Swap 4.50% 4.50% 4.50% 4.50% 4.50%
  Fixed rate 5.45% 5.45% 5.15% 4.95% 5.45%
  margin 0.96% 0.96% 0.66% 0.46% 0.96%
             
27-Sep-21 Swap 1.11% 1.11% 1.11% 1.11% 1.11%
  Fixed rate 2.60% 2.85% 2.85% 2.95% 2.85%
  margin 1.49% 1.74% 1.74% 1.84% 1.74%

This shows the extreme margin compression currently at both BNZ and Kiwibank, which is why we think they will more rates very soon.

The table also shows how far generally margins have compressed in a year.

And here is how things stand for borrowers who took out a two year fixed rate mortgage 2 years ago:

    ANZ ASB BNZ Kiwibank Westpac
2 years            
27-Sep-22 Swap 4.62% 4.62% 4.62% 4.62% 4.62%
  Fixed rate 5.75% 5.75% 5.39% 5.45% 5.65%
  margin 1.13% 1.13% 0.77% 0.83% 1.03%
             
27-Sep-20 Swap 0.04% 0.04% 0.04% 0.04% 0.04%
  Fixed rate 2.69% 2.69% 2.69% 2.79% 2.69%
  margin 2.65% 2.65% 2.65% 2.75% 2.65%

The story is similar for the two year fixed mortgage segment, but margins aren't as low, but they have compressed more over these two years. The two year swap rate was unusually low two years ago. They got even lower through to mid-November 2020, but then they started rising again soon after that.

And here is how things stand for borrowers who took out a three year fixed rate mortgage 3 years ago:

    ANZ ASB BNZ Kiwibank Westpac
3 year            
27-Sep-22 Swap 4.55% 4.55% 4.55% 4.55% 4.55%
  Fixed rate 5.95% 5.95% 5.69% 5.69% 5.65%
  margin 1.41% 1.41% 1.15% 1.15% 1.11%
             
27-Sep-19 Swap 0.94% 0.94% 0.94% 0.94% 0.94%
  Fixed rate 3.99% 3.89% 3.99% 3.99% 3.99%
  margin 3.06% 2.96% 3.06% 3.06% 3.06%

Overall, the main takeaways are that:

- borrowers are being insulated from even faster rate rises because banks are currently working with unusually compressed margins-to-swap.

- borrowers probably shouldn't expect these compressed margins to stay. Banks are not charities and they will collectively need to earn what they see is their historic return on equity.

At the end of this article is our unique mortgage calculator, one you can use to compare two scenarios.

One final thought: the one year swap rate is now back equaling its rate in December 2008. When it was last at this level, the one year fixed mortgage rate was 6.89%.

And the two year swap rate is now back to the level it was last in May 2010. Back then the two year fixed mortgage interest rate was 7.30%. 

You would be brave to think that current fixed mortgage rates won't go back to those levels again. Perhaps quite soon. But guessing isn't a good idea. Locking in something you can afford is a much better idea. Don't let a bad financial situation fester. Get professional assistance if you need it. And that may include talking to your lender if you have financial stress you are having difficulty managing.

Daily swap rates

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Source: NZFMA
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Fixed mortgage rates

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Comprehensive Mortgage Calculator

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59 Comments

The prophet warned about mortgage rates starting with the number 7.

Those who refused to take heed of His message now face peril.

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35

How did I know the first comment would be about the prophet. His legacy of a million posts all saying the same thing is definitely living on. 

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1

The unbelievers were numerous. But the writing was on the wall for everyone to see.

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11

I think the prophets busy at the Glorivalle court hearing...

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0

The book of Minsky does not preach about the false idols of communism and child abuse.

Those who understand His true message will know that Nifty1 doesn't think very much at all.

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10

E kore koe e mihi ki a koe

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1

I assume that's Maori? Excuse me but I don't understand a word you are saying!

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1

Some were false shepherds, Satan's messengers attempting to lead the lambs astray.

Stay your faith and thou shall be rewarded.

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4

Id presume as rates rise and bank valuations are pulled down we are going to see a lot of folks excluded from borrowing at the banks best rates, particularly FHBs who bought in the past year or so. That additional margin may well see rates closer to 7%.

Id suggest the speed of the swaps rise and the lagging of increased deposit rates is a factor in the decreased swap fixed to mortgage spread. It will inevitably catch up.

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3

"Banks are not charities, and they will collectively need to earn what they see is their historic return on equity."

Quite right.

And if the market deterioration picks up steam, that equity is going to be tested with a ramping up of Provisioning, for Bad and Doubtful Debts. And who is going to pay for that? The shareholders, I guess. And what does that due to stock prices?

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6

I don't know. Banks seem to have plenty of "charity" via central banks and the taxpayer, particularly in Nu Zillun'. All enabled by the govt. 

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20

Great analysis.

Surely the FLP is helping banks get away with such low margins. Once this scheme ends in December, and as the cost of FLP funds increases with the OCR, I suspect we'll see the pressure start to build on fixed-rate mortgages big time.

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24

Absolutely, current OCR 3%. 1.5% lower than these swaps. Those slight margins subsidised by FLP borrowing at OCR. When that runs out, will we see some sudden jumps in rates? Runs out in December so the prophecy may still be on

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17

It is a disgrace that the Reserve Bank is still running its FLP programme & subsidising the banks.  As a result banks have been earnings excess profits.

Banks access to cheap FLP loans at 3% OCR means inflation with be harder to tame.

Bank margins will definitely increase when FLP ends in December.

On top of that the government is planning to increase its spending at a time when our annual current account deficit (exports - imports) is $27 billion for year ending 30 Jun 22.

NZ is living beyond its means & a hard landing for the economy is looking more probable.

 

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16

The RBNZ's FLP is a nonsensical joke and an utter disgrace. It must be stopped right now, and the RBNZ must let the interest rates normalization process continue with no further market manipulation. Enough damage has already been done with this ultra-loose monetary policy.

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10

Labour doesn't care. They don't understand economics. Ignore is bliss Mr Anderson. 

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0

So where the charts show swap rates of 4.5% for 1 year, 4.62% for 2-year and 4.55% for 3 years, they should all be showing 3%, and the margins calculated from that?

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Yes the FLP is probably a major contributor.  Related to this there still is very low competition for term deposit funding, possibly a lot of people cashed up from covid payments etc.  It would be interesting to see whether margins have actually expanded for retail deposit funding

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4

TD rates still have a long way to go before they're attractive enough to draw much attention. The risk-free rate of return at the moment (via Kiwibonds) is 3.5% for 1 year, while the average 1 year TD rate across banks is 4.1%. Yes, it's 60bps more, but does that compensate for the additional risk at the moment? I wouldn't have thought so. Deposit insurance may change this calculation if it ever sees the light of day.

The FLP on the other hand is a bit of a double-edged sword. Yes, it gives bank access to cheap money, but it also allows them to offload mortgage debt as collateral for FLP funds, in the form of securities which institutional investors would be unlikely to touch except at much higher rates of return, given the risk inherent in our housing market currently. Once the FLP ends, banks will have to borrow at much higher market rates, and they will also lose the ability to offload mortgage debt so cheaply. This will have a fairly substantial impact on rates I would imagine, for both mortgages and term deposits.

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16

Great stuff Chebs 

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3

Didn't the ASB CEO say that FLP is not for the banks' benefit but for the "investment in NZ"? Pretty sure that was in a recent media release. 

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4

Yes, I believe she said that during her stand up slot at The Classic Comedy Club.

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14

Waiting with interest to see what happens with FLP... could it be extended due to a 'cost of living crisis'?

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7

You wish 

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2

Nah I don't wish, I just wouldn't put it past the RBNZ & Govt...

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17

More of the problem to fix the problem! Sounds like a great idea. 

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5

It's what they've done for years...

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8

Indeed and one day it will backfire in their face spectacularly. Could be this year, could be this decade. Could be what is happening now. Who knows but if we live long enough, we will get to find out.

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It will be extended and the NZD will fall to 50c USD.... Let's import inflation.

Gosh I have seen this a mile off.

Why would the govt STOP making political decisions now? Roll on the first finance minister in history who has no idea what finance is.

Let's be honest here..... Labour sees it all as a gravy train, well sooner or later that isn't going to work. But it won't be their fault now will it

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Those long on speculation will wish for that as an Xmas present. Everyone else is wishing for DTi. Xmas will be fun regardless.

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4

Lock now as 5.75%s will seem to good a deal in hindsight in near future.

In 7s%, not far away as fundamental have to catch up. 

Wondering will FLP will have any further impact as is not far away, before it is withdrawn : https://www.rbnz.govt.nz/monetary-policy/monetary-policy-tools/funding-…

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8

How many mortgages and how many years experience do you have Carinaz to give financial advice?

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2

My 2 cents.... kissing double digits during 2023/24. 

 

 

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16

There is widespread panic in the UK now that rates could hit 10%. I suggest some people need to do a bit of serious forward planning.

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0

Does anyone know of a mortgage repayment calculator that allows you to input recurring annual lump sum payments? I can find one with  monthly but not annual. 

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0

You can model mortgage repayments using the excel IPMT, PPMT, and NPER functions. Then you can customise exactly to your scenario. As an example, $500,000 loan outstanding, 5.45% interest rate, fortnightly payment of $1,500.

The principal component of the first fortnightly payment is, PPMT(5.45%/(365/14), 1, NPER(5.45%/(365/14), -1500, 500000), 500000)

The calculation for the second fortnightly payment is the same but you reduce the outstanding amount by the amount of principal paid off.

And then you just reduce the outstanding amount further for any lump sum payments.

Rounding the principal amounts to 2dp I can exactly replicate the amount outstanding at any date for my (BNZ) loan.

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8

NZD now around 57 against USD you have two choices raise rates now or super high inflation, trouble is once inflation sets in rates then have to be raised super high to bring it back down. The s… has hit the fan. not a good time to be in large debt.

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19

It depends how long the rates stay high for. 

Best case scenario is high inflation burns away the mortgage for a couple of years while fixed at ~5%, then rates come down to the 3s or 4s again.

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The iShares 20 years + Treasury Bond ETF (TLT) in the states is down 40% in response to rising interest rates. Its possible, that if interest rates continue to climb and sustain those higher levels, that this is a leading indicator for what is ahead for property. The TLT gives a more immediate response by discounting the expected cash flows with higher discount rates. No guarantees of course, but could be a leading indicator. The US housing market fell about the same amount as the TLT during the GFC. 

TLT $105.70 (▲0.41%) iShares 20 Plus Year Treasury Bond ETF | Google Finance

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6

Interesting post IO

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1

Thanks Yvil

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0

Agree this is what should be happening. That said it seems that every lever that the RBNZ can pull to protect the everything bubble is being pulled, regardless of whether it represent the financial interests of NZ tax payers pr not. Only a small group of Kiwis leveraged to very high levels.

Let them be run over by their own decisions...

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4

Thanks David, excellent article.

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4

Interesting article but flawed.

You have to take into account that inflation is devaluing debt at a very high rate. If inflation if 7% and nominal interest rates are 7% the real interest rate is 0%. The monetary environment remains hugely stimulatory in most countries for this reason. This might well be why consumers have such immense appetites for debt, they are getting a defacto bailout thanks to inflation.

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4

Are wages increasing at the same rate?

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7

Are wages increasing at the same rate?

No. This is part of the reason why the idea that inflation diminishes debt is wrong-headed. It's an urban myth from the 70s that is not properly understood.  

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9

What stats are you looking at? Last employment survey had wages increasing at more than 7% I seem to recall. 

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Mechanistically LPI and CPI are intrinsically linked so tend to move in unison.

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Its a two edged sword. Yes inflation devalues debt but all investments, including property are devalued at the same rate hence the reduction in bond prices , stock prices and ...  house prices. There aren't any winners in this game.

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 Yes inflation devalues debt.....

Which inflation are you referring to: the CPI, monetary inlfation, asset price inflation? The nominal debt remains, so__________? 

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You have to take into account that inflation is devaluing debt at a very high rate. If inflation if 7% and nominal interest rates are 7% the real interest rate is 0%. The monetary environment remains hugely stimulatory in most countries for this reason. This might well be why consumers have such immense appetites for debt, they are getting a defacto bailout thanks to inflation.

Sorry but this is a very bad take. Nobody is getting a bailout unless of course their incomes or revenues / profits are increasing at a rate => inflation. 

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5

Nifty is talking about mortgages not cost of living.

Currently most mortgage holders pay between 2.49% & 2.99%, which is much lower than than the increase in income, so the correct answer is: YES INCOME INFLATION IS EATING AWAY MORTGAGES

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3

But it’s also eating away at the value of that being mortgaged. In our case it’s our family home so all good for us, but for investors it sucks. Of course many of them are sitting so pretty it doesn’t matter. 

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1

I’m loving the positive negativity as it makes a change of government more likely. That aside, I’m not directly impacted by rising rates, yet. It’s coming indirectly for all of us but I don’t see much comment on that aspect. 

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0

Rate increases.  OK, I've caved - selling my gold and silver mining stocks.

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0

Most hold the view that properties will appreciate over time. In recent years, some houses doubled in value in as little as 3 years. COVID years are likely an aberration, a boost from relief measures.

And as a decade of low or no interest fades away, and mega interest rate hikes in quick succession are the norm, house asset deflation is in progress.

Economists turned salesmen, are promoting investments in houses. TA thinks that house prices will stabilise and appreciate 5% p.a. Another has advice on strategies to invest. A bank economist says "interest may have peaked", just a few weeks ago. 

All I know is that these are chaotic times. 

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1

I’m still not certain whether TA has sold his soul to one roof, or just still believes property will go up forever, or whether he’s just right yet again. 

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3

He actually has been fairly right a lot, at least up to now. Past performance no guarantee of future though 

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