When people say they’re worried about rate hikes, I say rates are already rising, and it hasn’t hurt anyone yet…
Last week I gave you the first reason why I thought this bull run had at least another ten years to run. Read it here.
I haven’t had time to pull the other points together, but I just wanted to clear something up.
Some people thought it was strange that I was talking about structurally lower interest rates when their banked had just jacked UP their rates – especially on interest-only investor loans.
So I just wanted to explain what I mean.
First when I’m talking about duration and the bond market and so on, they’re not seeing the interest rates increases that we’re seeing.
As far as they’re concerned, rates are still at rock bottom.
All the rate hikes that we’ve seen and that people are talking about are what we call “out-of-cycle”. (Forgive me if I’m going over old ground here).
That is, they’ve got nothing to do with the RBA’s regular monthly cycle of official interest rates. (Monetary Policy: Now with Wings)
It’s got to do with other stuff.
Right now that other stuff has to do with two things. The first is a new set of standards in global banking, called Basel 5.0 or something like that. Basel is the city in Switzerland where the Bank of International Settlements is located. The Bank of International Settlements is the public relations wing of the Intergalactic Order of Templar Knights and Space Lizards.
(No, seriously. Google it.)
The short of it is that the new Basel rules mean that banks have to be a little less slap happy with their loan to equity ratios, and at the coal face, that means higher rates for people like you and me.
(Curse you space lizards!)
The other place this stuff is coming from is our own APRA. APRA – the Association of Performance and Recording Artists – has seen a steady mission creep in recent years towards oversight of the financial sector. Now they’re worried that banks are a little too exposed to the mortgage market – especially investors and interest-only loans.
To put a lid on things, they’ve introduced speed limits – restrictions on how quickly banks can grow their investor and interest-only mortgage books.
At the coal face, that means higher rates for people like you and me.
(Curse you Molly Meldrum!)
You can get a sense of the first effect here. This chart shows the growing disconnect between official interest rates and the standard variable rate.
The gap opened up in the GFC, and has since got steadily wider and wider. Today, we’re looking at a gap of around 3.5 percentage points.
This chart just tracks the difference:
That’s pretty substantial. I mean, imagine what your interest rates would be if there hadn’t been this decoupling.
Banks would be practically giving you money.
So that’s one.
To get a feel of the second, this chart here overlays rates for investor and interest-only mortgages on the chart above.
You can see that the recent pick up has been driven by the premium that interest-only investor mortgages are attracting…
… just as Molly Meldrum intended.
And if you compare current rate settings with where we were at a year ago, you can see that owner-occupiers have seen a pivot – P&I rates are cheaper, while IO are more expensive.
But there’s no dodging it for investors. Investor loan rates are up about 0.3 perceantage points for P&I, and up a whopping 0.8 pp for IO.
That’s a pretty thorough disincentive. Many mortgage brokers are saying there’s no point even going for IO loans any more.
Anyway, long story short, interest rates are up. Not in the general economy, just in the mortgage market.
That means two things to me.
The first is that since interest rates in the general economy haven’t budged, the duration effects I was talking about in my last blog are still in full effect.
The second thing is that when chicken-littles are freaking about Molly Meldrum’s do-youself-a-favour rate hikes, I’m a bit like, whatever.
We are 350 basis points – or 14 rate hikes – into the current rate hike cycle. The rate hike cycle is almost 10 years old. It hasn’t trashed the economy yet. It’s not about to do it soon.
The Australian property market is one tough nut. A slight upward drift in book rates facing investors isn’t about to derail the whole show. Not by a long shot.
And that’s because interest rates are just one part of the story. I can think of at least 9 other factors driving prices higher…
But I haven’t got time for it this week.
Maybe next week.
Anyone out there copping some over-sized rate hikes?