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Issue 16: April 09
Interest rate update >

Economic Comment >

Is now the time to fix rates?>

Finance - the new realities >
RBA reduces official cash rate 0.25% - banks disagree
The RBA Board reduced the official cash rate by 0.25% at its April meeting.

The major banks failed to pass on the full reduction in their Standard Variable Home Loan rates - citing the fact that the actual costs of funds that they are paying are higher than the official cash rate.

Without apologising for the banks we need to be aware that they have to compete on world markets to raise funds. At this stage they only have approx 80% of their funding needs for the next 12 months.

The Federal Government has  established a facility through the Australian Office of Financial Management (AOFM) that effectively allows lenders to rent the Govt's AAA credit rating when raising funds.

 Fixed Rates have Increased

In the last month fixed rates have increased by approx 0.50% across the range,

We didn't read the signs.....two years before the event
There are concerns about the exponential rise in house prices in some parts of the United States. So far financial markets expect no disaster, but this is another important matter to watch.      Page 18 - BRW September 1- 7 2005

The signs of trouble brewing in the US property market were evident more than two years before the credit crisis hit financial markets. In Australia the Federal Government and the banks persisted in ignoring reality until after the Federal Election in late 2007.................

Economic Comment - No Quick Fix - but the sky's not falling in either...........

Some of us were affected early by the credit crisis and downturn (finance, construction, real estate, and the motor industry), some are only now starting to feel the pain, and some will probably get through the experience relatively unscathed.

So far we've seen relatively few businesses close with massive retrenchments. The slow down has been just that, one or two people here and there losing their jobs, as spending cutbacks seep through the economy.

Just as some sectors of the economy were affected early and are now starting to recover, those who have only just begun to feel the effects after two years will need to make their own uncomfortable adjustments and move foreward.

Unlike other recessions in the last 50 years, there is no single cause, no quick fix, and there will be an uneven recovery. There are tentative signs that the US economy is starting to recover, but just as it took several years for the problem to develop it may take several years for full recovery.

What is certain is that the long term costs will be with us for many years. The costs of the economic stimulus packages have to be funded by government borrowings. The Federal Government has already flagged the re introduction of "Aussie Bonds Mk II.

In addition to the financial cost there will be a regulatory cost associated with a new level of transparency on financial dealings at both national and international levels.

Interest Rates - the future

Home loan and commercial finance rates are the lowest that we've seen in over 20 years. Sentiment is that there may be a few more small reductions in the Official Cash Rate - but after that the only way is up. The questions will be how much? and how quickly?

The chart below (courtesy of Nab Capital) shows the 3 & 5 year wholesale SWAP rates over the last 12 months. The trend lines show that the wholesale costs of borrowing over the medium term have already started to rise slightly.

In the "real world" we've seen a slight increase in fixed rates for home loans, car and equipment finance, as well as commercial property loans.

Is now the time to fix rates? Be careful !

If the recovery is slow and uneven, the increase in interest rates will similarly be slow and uneven. At present the average of the major banks' home loan fixed rate for  5 years is 6.57% or approx 1% higher than the average variable rate.

Choosing to fix the rate on your loans could by simply locking in a higher rate rather than saving money. There are no hard and fast rules. The only advice we offer is to seek advice from a qualified and experienced adviser and to be very careful in relation to a) the portion of your loan that you fix and b) the fixed rate period that you select.    

The new realities in finance

Finance is like any other industry, it's subject to competitive pressures as well as market realities. One of the biggest changes we've seen in the short term has been the clawing back of market share by the major banks in the home loan market. This has been a direct result of the shut down of the world credit markets.

However just as the major innovations and changes in home lending were pioneered by non bank lenders in the 1990's, the industry has adapted and changed to suit the new order.

How competitive can non bank lenders be? 

A number of non bank lenders have been able to tap into the facility offered by the Australian Office of Financial Management (AOFM) and utilise the Govt's AAA credit rating to access the capital markets. The non bank sector is now able to offer highly competitive loan products in the prime borrowing sector for loans up to $750,000.   

Check out our new 4.89% Premium Variable loan. AFN Premium Variable.pdf

Residential Lending Criteria Changes

In the last five - seven years, lending guidelines were relaxed as lenders sought to gain market share. Now we're seeing the rebound, and a return to normality. Lending guidelines have been extensively modified and good credit history is paramount.

  • Low Doc Loans - have become increasingly expensive to fund. Non bank lenders have exited the market and banks are tightening criteria. Most will still lend to 60% loan to valuation ratio at present.  Pending national legislation will see the end of this style of lending. Borrowers with low doc loans will be under pressure.

  • 95% - 100% - high loan to valuation loans are also high risk for lenders and mortgage insurers. Loans for 100+% of the purchase price of a property without collateral security are no longer available. Loans to 95% LVR are still available however, credit criteria are stringent.

  • Credit impaired Loans - this market is virtually closed with the exception of Low LVR equity loans by non bank lenders.

Commercial Property and Business Loans - Changes

Lending criteria are under constant review. Transactions that may have been funded last week may not be funded this week. 

  • Reduced Loan to valuation ratios  as low as 50%.  60% - 65% is more the norm

  • Lenders prefer fast repayment of capital rather than interest only

  • Capitalised interest is not acceptable

  • Minimum repayment coverage of 1.5x required

  • High levels of presales are required for development projects

  • There are restrictions on "new to bank" borrowings

  • Large projects are very hard to fund

  • There is much greater emphasis on the requirement to provide quarterly and annual accounts as well as meet general lending covenants.