To fix or to float interest rates?

Property experts and owners alike may have breathed a sigh of relief when the Reserve Bank hiked interest rates by just 0.5 percentage points. Consensus had been for a one percent increase – which would have taken the prime rate to 16 percent.

But even prime at 15.5 percent is likely to pressurise many still repaying their home loans. And with the rate tightening cycle not over yet, home repossessions are expected to soar in the coming months.

The problem for homeowners is twofold: not only is household indebtedness at record highs – recently reaching a new record of 78 percent of disposable income. But this in turn has made it harder to stomach the interest rate increases.

According to Absa, a mortgage on a R1-million home – repaid over 20 years – has increased from R9984 in June 2006 (before rates started rising) to R13 539 now, a rise of R3555. On a property worth R2.5-million, repayments have increased R8888 over the past two years, and nearly R1000 this past month alone.

So what can you do if you believe interest rates will go higher before coming down? Well, one option is to fix the interest rate on your home loan. And this is particularly a good idea if you’ve reached the limit in your ability to absorb rate increases, says Absa Home Loans senior property analyst Jacques du Toit in Finweek. If you do opt to fix now, and rates do go up by a further 1.5 percentage points, you’ll benefit in the short term. And you’ll have security in the knowledge that you will be able to at least repay your home loan – even if you do end up paying more in the longer term if rates come down quite quickly.

Moreover, there are some attractive deals available to homeowners – most of them below prime. If you decide to fix your interest rate for one year, you could end up paying around 0.2 percent below prime. So if your interest rate is currently prime minus one percent, you’ll be paying slightly more in the next month or so. But should rates go up in August by say 100 basis points, you’ll be in the pound seats, with a slightly lower interest rate than if you’d stuck to a variable interest rate linked to the prime rate (0.2 percent lower, to be exact).

According to Bondbusters, some banks could offer you a fixed rate of prime minus 0.4 percent over two years, and up to prime minus 0.9 percent over 10 years. But MD Ian Wason warns, “While the mood at the moment seems to suggest that we should all go out and fix our mortgage rates, it is important to view this in light of your own situation.”

The problem, says Wason, is that it’s impossible to know where interest rates are heading. “We are seeing a lot of ‘false horizons’ as to where... the top of the interest rate cycle is, purely because we have no idea where oil and food prices will go...” And Investec Asset Management agrees: according to bond analyst Mokgatla Madisha at Investec, “Homeowners should bear in mind that the higher rates go now, the quicker they are likely to fall.” That means that if you fix your rate now for two years, you could be stuck paying off your mortgage at say 16 percent in 2010, even if inflation has eased back to its target range, and prime has been cut to around 12 percent. As it is, Investec expects interest rates to go up between one percent and 1.5 percent, before coming down again.

If you’ve done your sums, and fixing your interest rate is not your best option, what else can you do to alleviate some of the current pain? Cut back on other monthly expenses, says Wason, and negotiate with your bank or lender. “After you have had your mortgage for a while, you may be able to negotiate a better interest rate because you could be a far less risky client to the bank.” If your lender doesn’t see eye to eye with you, start looking for better rates with other institutions. “South Africans need to get far more dedicated to shopping around for a better rate – they would be surprised what they could be saving themselves.”

Absa Retail Banking Group Executive of Secured Lending, Gavin Opperman, says other options are also available to homeowners. You could extend the term of your loan (say from 20 years to 30 years – but remember the total repayment will increase accordingly); you could consolidate other debt into your mortgage loan which can then be paid off over a shorter term, while enjoying lower interest rates; and you could stash any extra cash, such as bonuses, into your mortgage account – thereby also cutting the outstanding loan amount, and therefore also the interest payable.

As published in issue 51 of

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