The gap between variable and fixed interest rates has just passed a historic peak. Is it time to fix?

An interesting fact in the latest Australian Bureau of Statistics Housing Finance data was the continued trend towards fixed rate loans.  The data showed that over the month of November 11.1% of borrowers opted for a fixed rate mortgage; that’s the highest percentage of fixed rate commitments since June 2008.  It’s interesting in the sense that rate cuts were widely anticipated prior to the first actual cut in November; in fact speculation that interest rates could potentially fall started as early as July 15 when Westpac’s Bill Evans made the call that rates were likely to start heading south –by August Bill’s early call was more widely accepted.  Why then was the proportion of fixed rate loans still increasing?  Likely the answer comes back to consumer conservatism and the desire for certainty in mortgage payments.

Another reason for the upswing in fixed rate mortgages comes back to the widening gap between variable and fixed rate loans.  In November, the average interest rate on a three year fixed loan was 6.4% compared with the average variable rate of 7.55% – a gap of 1.15 percentage points which is only slightly lower than the October 2011 gap which was 1.3 percentage points (the largest positive gap on record).  We would need to see more than four standard (ie 25 basis points) rate cuts (fully passed on by the banks) for the variable rate to get this low.  Clearly many borrowers saw the value in locking their mortgage into a fixed rate when the variable rate was so much higher.

Of course the cash rate (and variable rate) has been cut twice since the start of November and by January the average standard variable rate was 7.3%.  The average three year fixed rate has fallen to 6.35% – a slightly narrower gap of .95 basis points.  With further speculation about rate cuts over 2012 (financial markets are predicting rates will fall by almost another 100 basis points by the end of this year) we may find that fixed rates slip a bit further yet.

It’s interesting to look back at how consumers chose to structure their loans during the 18 months leading up the GFC.  At the time housing values were surging (firstly in Perth, then in Brisbane, Melbourne and Adelaide), interest rates were accelerating upwards and the absolute severity of the looming GFC simply wasn’t on the radar.  More than a quarter of new housing loans were locked into a fixed rate contract just before the peak of the interest rate cycle (average variable interest rate peaked at 9.6% in July/August 2008.  Those that fixed their rates at this time were soon to be sorely disappointed because rates took a swift diver to historic lows from September 2008.

That large hump of fixed rate mortgages have been expiring and continue to work their way through the refinance process – one of the reasons that refinance activity has been consistently trending upwards (up 12.5% on a year ago based on the November ABS data).

So the big question is, for prospective home buyers, would you opt for a fixed or variable rate mortgage?

About Tim Lawless

Tim heads up the RP Data research and analytics team, analysing real estate markets, demographics and economic trends across Australia

Connect with CoreLogic

Enter your email address to subscribe to our e-newsletter, and have new posts delivered via email. You can also connect with CoreLogic on social media.

8 Responses to The gap between variable and fixed interest rates has just passed a historic peak. Is it time to fix?

  1. Kevin February 3, 2012 at 10:38 am #

    Hi Tim, fascinating blog entry. One observation/question, though. Despite nominally low fixed rates, is it not the case that once you look at the establishment charges and other fees attached to fix rate loans (especially 1 or 2 year fixed loans), the gap between fixed rates and variable rates often narrows dramatically or disappears? So for the informed seeker of mortgages, fixed rate mortgages should only be attractive if you’re confident variable rates will rise soon. Which seems very unlikely!

    • Tim Lawless February 3, 2012 at 10:48 am #

      Thanks Kevin, a very valid point that I wasn’t aware of. Cheers, Tim

  2. John February 3, 2012 at 3:16 pm #

    Hi Tim, please clarify, your article stated “In November, the average interest rate on a three year fixed loan was 6.4% compared with the average fixed rate of 7.55% – a gap of 1.15 percentage points which is only slightly lower than the October 2011 gap which was 1.3 percentage points (the largest positive gap on record)”, is the 7.55% refering to varible rate?

    • Tim Lawless February 3, 2012 at 3:37 pm #

      John, looks like I made a typo (now corrected). The 7.55% should have referred to the variable rate. Apologies and thanks.

  3. Ian P February 3, 2012 at 4:49 pm #

    Remember when rates were at 17% and still climbing?
    CBA offered 15.5% fixed for 5 years and people stampeded to grab it!
    Within 1 year rates were down to 10% and kept dropping.
    Boy, did they bleed!
    Same old story – only fix if rates are well below average, otherwise stay variable.
    However, we should all remember that no economist ever predicts any big move in rates, particularly rises, so be prepared to handle any surprise move.

  4. Andrew February 6, 2012 at 8:35 am #

    Very interesting article Tim.

    Your final question to readers asks “would you opt for a fixed or variable rate mortgage?”.

    My question for you Tim, has anyone completed the research on which option (variable or fixed) is the cheapest option historically?

    I believe many years ago I read an article that stated there was only 2 ten year periods in history where you would have been better off financially having a fixed rate than a variable rate.

    Unfortunately I am unable to locate this article now, but I believe it was trying to suggest that convenience was the main benefit of fixing a loan but not minimising interest payments.

Trackbacks/Pingbacks

  1. The gap between variable and fixed interest rates has just passed a historic peak. « bakerbruce - February 6, 2012

    […] HERE to view the full report from RP Data Share this:TwitterFacebookLike this:LikeBe the first to like […]

  2. Is it time to fix rates? | Calibre Real Estate - February 8, 2012

    […] Source: Tim Lawless, RP DATA blog […]

Leave a Reply

Notify me of followup comments via e-mail. You can also subscribe without commenting.