Why are mortgage rates being hiked?
Around one million homeowners were hit by a sharp rise in mortgage repayments this week.
Families described the increase in standard variable rate loans by the Halifax, the Co-op and Yorkshire Bank as a ‘disaster’.
Lenders came under fire for the rises as the Bank of England has not changed the base rate, currently at a historic low of 0.5 per cent, for more than three years. They have claimed, however, that the cost of funding mortgages has increased significantly and used this to justify their rate rises.
Many borrowers struggle to understand how mortgages that have already been lent out many years ago can suffer from an increase in the cost of funding. However, this is due to the fact that with variable rate mortgages, ie SVRs and trackers, lenders have to balance their books on an ongoing basis. So, despite the fact that your mortgage may have been issued five years ago, your lender must balance the outstanding amount on its books at the end of every day.
A number of things influence this: the cost of funding on the wholesale money markets, the cost of getting funds in from savers and also the amount of capital that 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 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.
The majority of those affected by the rises are Halifax customers, who could typically find themselves paying nearly £200 extra a year, with the Co-operative Bank, Clydesdale Bank and Yorkshire Bank also among those who have made increases.
In fact, while LIBOR did rise sharply last year from about 0.8 per cent at the start of August to almost hit 1.09 per cent in January 2012, it has since dropped back steadily and now stands at 1.01 per cent. (It is crucial to remember though that LIBOR is just a theoretical rate and not all institutions can borrow at this cost, those the market judges as shaky will pay more.)
Meanwhile, that 3 per cent to attract savers has been the norm for a long time and the increase in capital requirements is a well signposted and gradual course.
In reality, this squeeze is about two things: firstly lenders are trying to shore up their defences against the ongoing rumblings of the eurozone debt crisis and its fallout, secondly this is all part of the process of rebuilding their finances after the credit crunch-driven financial crisis. Both of these things will continue for many years to come and it will be borrowers who foot the bill for repairing the damage done to banks and building societies by their own mismanagement during the easy credit boom years.
Borrowers need to do everything they can to protect themselves from this and not simply rely on their lender helping them out.
The safe places to be are tracker rates and fixed rates, which banks and building societies cannot hike at will. Without that guarantee, borrowers are at the mercy of the whims of banks who will be needing to find the cash to pay the bill for their past mistakes for many years to come.
To see our best buys for tracker and fixed rates, please click on the "Mortgage Best Buys" tab at the top of this page.