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Where next for mortgage rates?

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Mortgage rates have been pushed up by the lack of competition in the market. That means that as SVR hikes have arrived and more borrowers have been pushed to remortgage, lenders have raised prices to both take advantage and try and limit the new business coming to them. Fixed mortgage rates have risen the most; tracker mortgage rates sit slightly higher than they had been but are back to being considerably lower.

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Interest rates and the money markets

Economists now forecast the first hike from the record low 0.5% base rate may come as late as January 2016 - that has been pushed back from the end of 2014 earlier this month.

After this, base rate is expected to rise slowly and gradually, as the Bank of England fears damaging the weak recovery.

That revision of how soon rates will rise has led money market swap rates - which influence fixed rate mortgage costs - to slip back.

Five-year swaps plummeted from 3.07 per cent on 5 April 2011 to 1.99% at the start of August 2011 and are now at 1.50 per cent (10 May 2012) having hit a low of 1.47 per cent at the start of February.

Economic gloom means interest rates are likely to stay low for longer.

The eurozone debt crisis has taken a dramatic turn for the worse, with talk of Greece falling out of the currency and the uncertainty and potential hit to their balance sheets scares banks.

That crisis and the drop in official CPI inflation to 3 per cent, reported on 22 May, has pushed back rate rise expectations to now stand at the first BoE raise coming in 2016.

But the base rate does not really drive new mortgage rates anymore.

A number of things influence mortgage rates: the price of funding on the wholesale money markets, the cost of getting funds in from savers and also the amount of capital regulators demand banks hold against their loans.

While the Bank of England base rate has remained at a rock bottom 0.5 per cent, banks and building societies must pay about 3 per cent rate to attract new cash from easy access savers, and last year saw the benchmark money market cost of variable rate funding LIBOR rise as the eurozone debt crisis sent everyone running for cover.

The financial authorities are also tightening up on how much capital banks must hold, thus raising funding costs.

However, while all this means that lenders are telling the truth when they say that the cost of funding mortgages has risen, crucially they are also opting to maintain their healthy profit margins and squeeze borrowers to cover their extra costs.

Until competition returns to the mortgage market lenders will hold all the cards and rates will be twitchy. It is likely that they could fall back again if a bit of confidence returns, but borrowers angling for a new mortgage may like to consider snapping a deal up, if they feel they will be disappointed if rates head north.

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Should you get a new mortgage? And what to get?

Certainly, those on standard variable rates of 4 per cent or higher with reasonable equity in their home should seriously consider moving to a fee-free, early repayment charge free, life-time tracker. This could shave money off their monthly repayments - or leave them equal - and ensure their rate will only rise when base rate does.

Some could grab a fix and pay less than they are now, or just slightly more. If you are on an SVR you should seriously think about moving, unless you have a Nationwide / C&G-style guarantee capping it at a certain level above base rate.

Recent events have highlighted the vulnerability of standard variable rates and discount rates linked to them, with mortgage giant Halifax raising its SVR, along with Bank of Ireland, Co-op and Clydesdale/Yorkshire Banks. RBS also raised rates for 200,000 borrowers with Offset and One Account mortgages. Unlike standard variable rates, which are at the mercy of bank's whims, trackers will only move up if the base rate rises.)

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Why fix for five years or track for life?

At This is Money we favour five-year fixes and lifetime trackers over two or three year deals. The first give a good rate and security over a medium term period for those who want it, the second should allow borrowers to leave without incurring early repayment charges.

By contrast two or three year deals have slightly lower rates but will incur more remortgage fees and require borrowers to be looking around for a new mortgage just as rates may be starting to rise.

For now a decent gap between a top five-year fix and a best lifetime tracker remains: with decent equity or deposits the former can be had below 4 per cent and the latter at about 3 per cent. That gap is the price of security and on a £150,000 25-year repayment mortgage it equates to £80 per month.

Despite recent rises, these five-year fixes are cheap money locked in for a decent term and very tempting, but make sure you read the smallprint and compare costs including fees to see what is best for you.
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Safety first or take a gamble

Locked in: Borrowers are seeing five-year fixed rates cut

The appeal of a five-year fix to both buyers and remortgagers is the longer term security it gives and that there is no need to remortgage in a short period of time, when rates are likely to be higher.

Homeowners should check that deals they are looking at are portable, and can therefore go with them if they move home.

Never forget the pay rate on trackers will rise when the base rate does.

The bigger margin on fixed rates meansthat borrowers willing to take a gamble on rates rising slowly arebeing tempted by tracker rate mortgages.

Those happy to take a punt onrates rising slowly can save money over time by opting for a tracker,but they need to be comfortable with the risk of higher payments andfactor in a decent safety margin when working out future mortgagecosts.
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Big fees vs rates

The best rates require big fees, but in most instances, fee-free or low-fee options are available and that highlights how vital it is for borrowers to work out if a big fee-low rate mortgage is worth it for them.

Typically, the bigger your mortgage the more worthwhile it is paying a large fee, although watch out for those that are a percentage of your loan.

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Will rates go lower?

The problem for borrowers in recent years is that they don't know when mortgage rates will hit the bottom.

It looks now as if we have already seen this last autumn and now rates have jumped sharply again, but a similar leap in costs was seen in winter 2011 and rates then headed back lower through late summer.

Lenders certainly have room to push rates down further if they had more money to lend, but there is no guarantee that they will do so though and many are likely to use chunky margins to rebuild balance sheets.

Borrowers need to be aware that in these repeated financial crisis days there is something else factored in to mortgage rates: risk.

Lenders are boosting rates to cover their fear of bad debts and the financial authorities' demands that they cover themselves adequately.That fear factor will remain for years to come, so don't expect a return to the easy credit days before 2007.
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A brief guide to what decides rates

Mortgage rates and savings rates are part of a complex financial web that draws on official lending costs, ie base rate, money market funding costs, and competition for savers' deposits.

The traditional influence on fixed rate mortgages over the past decade has been swap rates, the cost of obtaining fixed term funding on the money markets for lenders.

Meanwhile, the traditional influence on tracker rates over the same period has been Libor, the cost of floating rate funding on the money markets.

Banks use savings deposits to fundmortgages as well as money market borrowing, while building societiesare heavily limited in how much of the latter they can use.

This means fixed savings rates arealso influenced by swap rates, while instant access savings areinfluenced by variable interest costs - base rate and Libor.

Typically money market costs have tended to move in line with the Bank ofEngland's base rate, with Libor about 0.1 per cent above it and swaprates reflecting what the market thinks interest rates will be over aset period of time, ie two years, five years etc.

The credit crunch put paid to this relationship temporarily, but things then returned almost back to normal. However, Libor has risen once more, from its level at about 0.8 per cent, as the Eurozone debt crisis has deepened and was at just above 1.00% on 22 May 2012, having fallen back from almost 1.09 per cent.
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Swap rates stood at 1.27 per cent over two years and 1.50 per cent over five years on 22 May 2012 - compared to 1.22 per cent over two years and 1.55 per cent over five years, on 7 March 2012.

Generally, a rise in Libor orswap rates will push up mortgage costs and a fall will allow lenders tocut them.

However, at the moment mortgage lenders' levels of confidenceand their access to funding are equally important to rates, this hasmanifested itself in demands for big deposits and high margins onmortgages above money market rates

If confidence increases, inthe economy, the banking sector and the outlook for house prices,lenders will find it easier to raise funding and borrowers can expectrates to come down and deposit requirements to ease.

This would ironically be bad news for savers, even if base rate rose slightly, as the unfreezing of the money markets would make their deposits less important to lenders - leading to worse rates being offered.


Choosing a mortgage - the essential quick guide

Mortgages are still being rationed - but you can get them

The problem is that rates are being used not just to make money but also to ration mortgages - most lenders could not cope with the demand that offering say 3 per cent over five years to those with a 25 per cent deposit would bring. If you are in the position of needing to fix, remember if you have a 25 per cent deposit or equity, despite the doom and gloom, now is not a bad time to be looking for a mortgage. After all, any rates below 5 per cent are historically cheap.

How big a deposit do I need?
To get the full choice of deals raising a decent deposit is still vital. The benchmark figure is 25 per cent, if you have this then you'll be getting close to the best rates, although for an absolute cheapest deal you're still likely to need 40 per cent. However, things are looking up for homemovers and first-time buyers who can't raise that hefty quarter of a property's value. A selection of better deals for 15 per cent deposits are available and even the 10 per cent deposit market is looking perkier. The most consistent rates in recent times come from YBS, First Direct, HSBC, the Co-op / Britannia and the Post Office. Check them out if you are searching for a mortgage.

Should I take a fixed rate?

Borrowers face a tough decision on this, as fixed rates still remain comparatively expensive by comparison with tracker deals. That leaves the big question: when will interest rates rise? The consensus is that there will be no dramatic sudden increases- markets forecast the first rate rise for late 2013/early 2014. However, these forecasts are no guarantee that rates won't rise and when rates rise trackers will get more expensive. [Remember almost no one forecast base rate heading down to 0.5 per cent]. Borrowers needing security should consider the extra cost of a fix as worthwhile. If you are taking a tracker because you couldn't afford the equivalent fixed rate then you are putting yourself in a very dangerous position or those remortgaging, or buying and able to take their mortgage with them, if you don't need to act right now, i.e. you are on an existing low tracker rate or guaranteed standard variable rate, it might be worth keeping your cheap deal - but remember you are taking a punt on low rates and setting aside some savings that you make is a wise move.

Should I take a tracker rate?

Tracker rates look good right now. They are substantially cheaper than fixes and have surged in popularity, but they should come with a massive warning sign attached, as essentially they are a gamble. What looks like a bargain rate now, could soon get very expensive when interest rates rise. Even the best trackers are at about 2 per cent above base rate. That's fine when base rate is 0.5 per cent, but a whole a lot more expensive if it rises to just 2.5 per cent, which would still be a historically low level. Anyone considering a tracker needs to make sure they are not just storing up a problem for the future. If the tracker comes with an early redemption penalty that would make it expensive to jump ship, then make sure your finances could take a rise of at least 2 per cent to 3 per cent in interest rates. Of course, that may not happen. Inflation may subside, the UK may remain mired in economic gloom and rates may stay below 1% for many years to come. If that happens a tracker looks a good bet, but just to reiterate - it is a gamble. For that reason we at This is Money like tracker deals that fit into one of these three categories: no early redemption penalties, a cap to how high the rate will go, or that let you jump ship for a fixed rate if rates rise.

Nationwide first time buyers affordability graph, January 2012

Catch 22: As a percentage of salary the mortgage costs for owning a first home are near the lowest they had been for ten years - but most first-time buyers remain locked out by big deposit demands.

Will my lender hike my standard variable rate?

A number of mortgage borrowers have fallen victim to lenders hiking their standard variable rates, despite the base rate remaining stable. Halifax became the biggest name to do this when it announced it was bumping its SVR from 3.5 per cent to 3.99 per cent. Some RBS and NatWest borrowers have also suffered a recent SVR hike, as have Co-op, Clydesdale and Yorkshire Bank customers and Bank of Ireland borrowers. Skipton Building Society did it too when its SVR soared from 3.5 per cent to 4.95 per cent. It had previously pledged its SVR would never be more than 3 per cent above base rate and had reduced it accordingly as the Bank of England cut rates. To change its SVR, Skipton had to cite 'exceptional circumstances'. A number of small building societies, including Marsden, Scottish, Cambidge, Kent Reliance and Accord Mortgages, have also raised SVRs since the base rate hit rock bottom. Other lenders like Nationwide have introduced a new SVR - it has a new one at 3.99 per cent, instead of 2.5 per cent, for new borrowers and those remortgaging. Borrowers with smaller societies or lenders shut to new business are most at risk of seeing SVRs raised. Previously it was thought that those with larger societies or banks should be safe but the Halifax and RBS moves put paid to that view. Never forget than without a Nationwide-style base rate lock guarantee, your SVR could be hiked at any time, as could a discount rate linked to it.

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