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A rise in interest rates may be on the cards sooner than expected, and is set to affect the fortunes of millions of savers and borrowers across the country when it happens. Minutes of the Bank of England’s monthly meeting, released last Wednesday, showed that two of the nine-strong committee voted for a 0.25% rise. It is the first time there has been a split on the Monetary Policy Committee since July 2011 and the revelation has ruffled the feathers of economists who are desperately analysing every bit of data to try to work out when rates might go up.
Meanwhile, for the average man (or woman) on the street, a rate rise, even a small one, could potentially mean an increase in monthly mortgage costs, a better deal on savings rates and a change in the returns on an investment portfolio. But do you need to act now to do something about it?
Mortgages
Jonathan Clay, who works for a map data company in Coalville, Leicestershire, and his wife Emma, who works for the local council, have just remortgaged to a five-year fixed-rate mortgage with Nationwide. The couple, who have a two-year-old daughter, Evie, don’t want unexpected rises in costs while she is young. “We have had such a good run of rates not rising that it is inevitable they will go up soon,” he says. “Money is quite tight in our household so we feel more comfortable knowing what we are paying every month for the next five years.”
The Clays are not alone: increasing numbers of people are looking at five-year fixed-rate mortgages. “If your main worry is an increase in monthly payments when rates rise and you think you will be in your property for at least five years, a five-year fix is a good idea,” says Andrew Montlake of mortgage brokers Coreco. “In years three to five of that mortgage you will almost certainly be looking at that deal and thinking what a great idea it was.”
For these people, the news on rates is good. The price of fixed rates has been falling and last week Woolwich launched a five-year fix at below 3%, the first time such rates have been that low this year. The 2.99% deal is only available to those borrowing £500,000 or more and the maximum loan-to-value is 65%. For those borrowing less, the lender charges 3.09%.
The best two-year fixed rates, by comparison, are around 1% below those of the five-year fixes. These include a 1.94% fix from the Yorkshire building society and a 2.19% fix from the Coventry.
So should you be opting for a fixed rate? It depends on your current mortgage deal, say the experts.
“People on lifetime trackers below 1% are not going to give those up,” says Peter Gettins, product manager at broker London & Country mortgages. Simon Tyler, of Tyler Mortgage Management, agrees: “The guidance from Mark Carney [the governor of the Bank of England] suggests that when rates do rise, they will do so slowly, so it’s entirely possible that people on very cheap trackers could do better than those on fixes for the next few years.”
However, the consensus appears to be that anyone on their lender’s standard variable rate, which is the rate you end up paying when your mortgage deal comes to an end, could be better off remortgaging now rather than waiting.
Savings
Savers have been enduring abysmally low interest rates, with seven years of a record low bank base rate. Coupled with this, the Funding for Lending scheme, introduced by the government in 2012 to give banks and building societies easy access to cheap money, has meant that many of these institutions are no longer interested in savers’ cash to balance their books. A rise in interest rates should, in theory, herald a turning point in savers’ fortunes. But will it?
“I think a rate rise for savers is a bit of a red herring,” says Sue Hannums of website Savingschampion.co.uk. “We think that even when the base rate rises, any follow-on rises from banks and building societies will be underwhelming. Rates have fallen so much in the past two years that we need more than a rate rise; we need more competition among savings providers.”
Given this, Hannums suggests savers should spread their money among different types of saving products but shouldn’t be put off tying money into fixed-rate products.
“If we were in the savings market we were in a few years ago, yes, I would say avoid tying into a fixed rate just before rates are predicted to rise,” she says. “But now that we are seeing rate cuts everywhere that are likely to continue, you can’t ignore the peace of mind a fixed rate gives.”
For those who are after short-term security, Yorkshire building society launched a one-year fixed-rate Isa last week, paying 2%. It allows transfers in of current Isa money and its rate is the best offered on a one-year fix since September 2013. Longer term, Coventry and Leeds building societies have four- and five-year fixed-rate Isas paying 2.75% and 2.85% respectively. These do not allow transfers in.
The best variable-rate Isas pay between 1.5% and 1.75%, according to Savingschampion.co.uk.
There is one product designed specifically with the base rate in mind – though it does require a minimum investment of £25,000, and the interest rate is not that great unless there are multiple base rate rises. The Base Rate Plus from Investec bank locks saver’s money away for three years but guarantees a minimum return of 2.6% and pays 1% above the Bank of England base rate. So if the Bank of England’s rate goes up beyond 1.6%, you will earn the Bank of England base rate plus 1%. That means that, assuming BoE rate rises of 0.25% a time, savers would need to see six of these before getting the additional 1%.
Investments
When rates go up, it typically spells bad news for corporate bond holders as when rates rise, bond prices tend to fall. You may not even know you have corporate bonds if they are part of your pension fund; or you may have them as a separate fund in a portfolio.
However, given rates have yet to rise and, when they do, it is predicted to be by a small amount, Darius McDermott, managing director of Chelsea Financial Services thinks any changes are already priced into bonds. “Those who think interest rates might go up more dramatically might want to reconfigure their bond holdings, but for everyone else I think it’s a case of wait and see.” How much bond holders will be affected when rate rises do come depends on the maturity date of the bonds. There is a general rule of thumb, McDermott says, which can help investors measure the impact of rate rises. If for example, the average maturity date of your bond fund is five years, you can expect a 5% loss of capital for every 1% rate rise. If it is six years, expect a 6% fall and so on.
Nick Bamford, of financial planners Informed Choice, is even more sceptical about taking any action on investments now: “I don’t think rates will rise at all in the next year,” he says. “In any case there are more dramatic things going on in the world, such as events in Syria and Ukraine, which are more likely to affect equities than a potential small rate rise in the UK.”
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