The big-banks have started slashing their fixed-rate mortgages, so what do they know that we don’t? I reckon they’ve seen how the chips lie, and know that a interest rate cuts are pretty much a sure-bet from here.
CBA sparked a bit of a rate-cutting and media frenzy last week when it announced that it was cutting the rates on its fixed home mortgages to below 5%.
And the majors have all since followed suit.
What’s going on? Are we entering some golden age of competition between the banks as some people have suggested? Or do the banks know something that we don’t?
Call me a sceptic, but when the big four banks control 85% of the mortgage market, I’m not holding my breath for ‘rigorous and healthy’ competition. I think the best we can hope for is some sort of muted oligopoly – and that kinda seems to be what we’ve got – punctuated by shameless bouts of collusion and rent seeking.
The sceptic in me also thinks that this might also be more about media and PR than any fundamental change in bank business. CBA saw the writing on the wall, and so seized the first-mover advantage. It now gets the kudos of being the ‘market leader’ every time the media reports it.
And when you break it down, 70 basis points sounds like a lot – close to three regular rate cuts – but it’s not actually all that amazing. CBA’s sub 5% rate only applies if you bundle in your other banking with them, and there’s an annual fee of a couple of hundred dollars as well…
And for whatever reason, Aussies just don’t seem to dig fixed-rate mortgages. In NZ and Britain, they account for almost half the market. Here’s it’s like one in 5, tops. 18% of CBA’s book is fixed rate. ANZ is like 11%
But even then, I’ve seen some estimates say that 5-year fixed rates are an even smaller percentage again – something like 1% of their books.
So a cut to 3 and 5-year fixed rates is going to have a minimal impact on their business (and from a marketing perspective, is probably money well spent!)
The other point is that the banks can afford it. Their wholesale cost of funds has been falling for over a year now. There’s this cute notion that someone in your neighbourhood puts money in the bank, and then the bank lends it out to you, and that’s how banking works.
Maybe back in the stone-age. Now, banks borrow money on international money markets and lend it to you (though deposits also have a role to play).
Like this chart here shows that the 3 year swap rate, has fallen from 3.3% towards the end of last year, down to around 2.8% now. That’s a full half a percent.
In fact, some analysts are saying that banks are currently enjoying the cheapest capital on offer since before the GFC.
(You might have noticed that the banks haven’t passed these discounts on to you…. How’s that competition working out for you?)
And so a few basis points here and there, tied in with some backhanded packages and fee hikes is no skin off anyone’s nose.
What is interesting though is what this means about the banks’ longer-term view of interest rates.
That is, the banks certainly don’t see rates rising any time soon. In fact, they’re probably going lower still.
Even the most bullish commentators aren’t expecting rate hikes until the middle of next year at the earliest. But even they’re in the minority. Most people are expecting more cuts.
And markets seemed to have priced in at least one, maybe two rate cuts over the next year.
And it’s not because the Australian economy is looking wonky – though there are some questions about how the transition away from the mining boom is going to go.
No, it’s all about the global outlook, and what’s happening with interest rates around the world. The US, Europe and Japan all have their interest rates tied to zero. Policy is getting a little tighter in the US, as they unwind quantitative easing, but they’re still a long way from raising rates.
And that means there’s still a yawning interest rate differential between us and the rest of the world. If we hike rates and the gap gets bigger, then Aussies assets are paying more of a return, people will want Aussie dollars to buy Aussie assets…
… and extra demand will push the Aussie even higher.
And we know what a thorn in the side the high Aussie has been.
In fact, with markets having already priced in one or two interest rate cuts, they’ve got the RBA over a barrel. The current exchange rate – already a hefty 94 cents – factors in the expectation of more rate cuts to come.
So if the RBA doesn’t deliver the promised rate cuts, the exchange rate suddenly looks cheap, and it’s not a much of a leap from here over the parity mark.
So the RBA would be testing the markets patience if they held those rate cuts back for too long. But if they raised rates?
Forget it. The markets would quickly punish us, and we could be looking at a crippling exchange rate of $1.10 or $1.20. That’d would be a pain in the arse.
The banks know that the market’s got Glenn pinned down. And so betting on further rate cuts – which is what their adjustment to the fixed-rate is – seems like a pretty safe bet to me.
Say what you like about banks, but they’re no fools with their money.