Hawes: Don't leap into a fixed mortgage
There are some stunning fixed rate loans on offer at the moment. Some rates are as low as 4.88 per cent fixed for one year - and that is the published rate, before you roll your sleeves up and start to negotiate. Rates like this are very tempting and so little wonder that Reserve Bank figures show that large numbers of people are switching from floating rates to fixed rates.
However, people need to beware being caught by a great advertising headline: there is more to managing your mortgage than simply grabbing a good short-term special rate. That 4.88 per cent is cheap, but remember that it is only for 12 months.
A quick glance at the shift from variable rates to fixed rates might lead you to think that most mortgage holders are concerned with a likely increase in mortgage interest rates and that they are, therefore, taking cover in the form of moving to fixed rates.
However, my guess is that a lot of people are not really trying to shield themselves from higher rates in the future but are actually trying to pick up a better rate for the short term. Many people who are going fixed are moving to short-term fixed rates - that is, the rate is only fixed for one or two years. This could spell trouble when the fixed rate expires.
It seems to me that many people are being suckered in by bank marketing. The headline may have a very low number in it: that 4.88 per cent looks great. However, this rate is for only 12 months and so you should ask yourself: what happens then?
Taking a one or two-year fixed rate at the moment may well mean that your fixed rate term expires at a time when rates have risen. That means you will have enjoyed that very low rate for 12 months, but you may pay a heavy price when it expires.
I have long thought that taking a one or two-year fixed rate is to fall between the devil and the deep blue sea. It gives neither the flexibility of a variable rate nor the security and certainty of a longer fixed rate - it is the worst of both worlds.
Interest rates have been low for a long time but you should not think that this will always be so: eventually interest rates will revert to the mean. Most economists and various other pundits think that rates will start to rise early next year. That is no guarantee, of course, but a rise in interest rates does seem fairly likely.
Selecting the right term for which to fix is only partly about looking at the interest rate that you will pay and trying to profit from it. The other part is looking at your own situation and how difficult you would find it to cope with a higher mortgage interest rate.
In this respect, fixing your mortgage is like taking out insurance - you do not really try to profit from insurance, you are simply paying the premium to cover risk that you cannot afford to take.
I do think that people should be moving to fixed rates but they should be doing it more to cover risk rather than to profit. With this in mind, they should ignore the fancy headline and move to three or four-year fixed terms rather than one or two years.
Yes, that will mean you will pay more, in the short term at least, but this extra cost should be considered in exactly the same way as insurance premiums: the price that you pay to pass on risk.
First have a good look at your financial situation. If you think that you could manage a substantial hike in interest rates then maybe you could have a go at picking the best rates and try to profit from the headlined specials that are on offer.
If a hike in rates would create difficulties for you then you need to fix for several years.
You should not fix all of a mortgage in one lump at the moment. Instead fix different tranches so you have several expiry dates at any one time.
For most people fixing is a good idea but remember, a lower rate is only one part of the equation - managing risk is the other part.
Martin Hawes is an authorised financial adviser and a disclosure statement is available on request and free of charge, or can be found at www.martinhawes.com.
This article is of a general nature and is not personalised financial advice.
Sunday Star Times