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Why fixed rate mortgage rates are falling

BY Ned Browne

24th Feb 2023 Property

Why fixed rate mortgage rates are falling

Fixed rate mortgage rates have taken a surprising downward turn, which is making five-year mortgage deals weirdly cheap. We explain what's behind this trend

An odd thing happened earlier this year—on February 2, the Bank of England increased the base rate from 3.5% to 4.0% which would, in normal circumstances, preempt a rise in mortgage interest rates.

Yet, the opposite happened: the interest rate for many fixed rate mortgage deals actually fell.

The two main factors driving this are the competition for customers and market factors—mortgage loans aren’t based on the present, they are based on what the market thinks the future holds.

What's behind the falling fixed mortgage rates?

Banker counting up coins in visual demonstration of inflation and interest ratesThe Bank of England is under pressure to balance interest rates against a projected falling inflation

According to the Bank of England, in August 2022, there were 74,425 new mortgages approved. By December of the same year, that had fallen to 35,612.

To put this in context, this is the lowest rate since January 2009 (excluding the early months of the COVID-19 pandemic). Bear in mind, the global financial crisis really took hold in 2008.

"In August 2022, there were 74,425 new mortgages approved. By December, that had fallen to 35,612"

This dramatic drop in mortgage approvals will affect the future profits of banks, and they are fully aware of this. As such, the battle for the dwindling number of customers has intensified.

The banks are taking a calculated risk hoping that property prices stabilise. They also know that property is a long-term investment.

How a dropping inflation affects interest rates

While the headline rate of inflation of 10.5% is still close to a 40-year high, most commentators believe this is highly likely to fall dramatically over the next couple of years (mainly due to falling global energy prices and the end to China’s zero-Covid policy).

It’s the Bank of England’s job to keep inflation at 2%, which is why it’s had to raise interest rates.

But, one of the government's other economic objectives is to achieve “strong, sustainable and balanced growth”. That means there’s pressure on the Bank of England to reduce interest rates once inflation is back under control.

"There’s pressure on the Bank of England to reduce interest rates once inflation is back under control"

The banks know this, and are starting to price in probable interest-rate cuts.

Put simply, if the banks think interest rates are likely to fall in 2025, they will price this into the five-year fixed-rate mortgages they sell.

This is why we’re currently observing another strange phenomena: five-year mortgage deals are now cheaper than two-year deals. It is almost always the other way around. Strange times indeed.

Will everyone benefit?

First time buyer checks for new property onlineFirst time buyers are unlikely to benefit from the falling fixed rate mortgage rates, as the best rates are going to applicants with big deposits

Sadly not—property prices are still forecast to fall in 2023. This, on the face of it, may look like good news for first-time buyers. Yet they are the ones who will now find it very hard to obtain a mortgage.

"Currently the best rates are only available for those with large deposits or sizable amounts of equity"

Currently the best rates are only available for those with large deposits or sizable amounts of equity. In other words, the bank will covet those with low loan-to-value loan requirements and steer clear of borrowers with, for example, 5% deposits.

Reality check

Despite the recent falls in mortgage interest rates, the pain for many people whose fixed rate deal is due to end will be hard to bear.

Most will pay three or four times as much in interest every month. This will dramatically affect standards of living and will cause a rise in repossessions.

There are tough times ahead.

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