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With mortgage rates unlikely to fall further without an OCR cut, it may be time to take the bird in the hand, says John Bolton

With mortgage rates unlikely to fall further without an OCR cut, it may be time to take the bird in the hand, says John Bolton

By John Bolton*

TSB grabbed headlines in February when it came out with a 10-year fixed mortgage rate of 5.89%.

That is a sensational rate for 10-year money and we’ve been helping a number of investors jump into it.

Regular readers will know we’ve said for a number of years that interest rates will stay low for longer.

But even I’ve been caught by surprise by this latest round of extremely low rates.

Broadly speaking we’re in a low rate environment because our huge debt levels have put the brake on spending and lower consumption (aka demand) kills inflation.

It's a story based around supply and demand.

During the 2000s there was a huge increase in manufacturing capacity in Asia in response to the biggest consumption boom in history. This spike in consumption was driven by post-war baby boomers as well as historically low interest rates and debt-growth. In New Zealand debt-growth ran at 15% per year during 2002-2006 and we saw mortgage debt grow from $100 billion to $200 billion over the past decade. That’s a lot of extra consumption.

But just as we have had manufacturing capacity hit a peak, Baby Boomers are retiring and reducing their consumption.

Coming in behind them, Generation X and Y cannot fill the void. They are a smaller generation by number and they are coming through saddled with debt. So, for the foreseeable future we face an over supply of goods (and the raw materials used in their manufacture) and that means softer prices and the risk of deflation.

If you haven’t figured it out yet, Reserve Banks break out in a cold sweat at the thought of deflation. The unprecedented response to deflation, has been to print money, lots of it.

Then out of left-field, the biggest surprise has been negative interest rates which most economists thought was practically impossible. We are witnessing negative interest rates on sovereign debt in the likes of Switzerland, Denmark, and Germany and it shows a profound lack of confidence in the future of the Eurozone.

The catalyst has been the European Central Bank printing money and buying member sovereign debt. Because there is no centralised debt in Europe, the ECB has been buying up a mix of member sovereign bonds. And that’s the catch. If Europe were to break up then investors wouldn’t want to be left holding Spanish or Greek debt. Relatively speaking they want to hold the debt of creditworthy nations like Germany. But the Germans are running a surplus and not borrowing, and that excess demand has pushed rates below zero.

High demand in Europe for creditworthy debt has reduced long-term fixed mortgage rates to new lows. In January ANZ NZ issued a €750 million seven-year covered bond priced at a 0.66% yield. This has to be hedged back into NZ dollars so the absolute rate is a bit misleading, but nonetheless this is very cheap borrowing.

However it’s a limited opportunity for cheap money. To maintain stability, the Reserve Bank limits how much offshore money banks can access and domestic deposits remain relatively expensive.

I wouldn’t expect to see interest rates fall further without a decrease in the Official Cash Rate and at this stage that seems unlikely. When it comes to mortgage rates, my view is to take the bird in the hand. To do anything else is speculation.


John Bolton is the principal at Squirrel Mortgages. This item first appeared here and is used above with permission.

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You're going to be suprised again in about 6 months when the ocr is cut. You can make a note of my comment.

Coming in behind them, Generation X and Y cannot fill the void. They are a smaller generation by number and they are coming through saddled with debt.
I often make a mental note of the age of the home owners in my typical NZ suburb.  The conclusion - one big number who are within 5-10 years of being a Ryman client ...if not earth worms.  I guess the expectation is that the migrants will be the buyers because on current income/price ratios, it won't be NZ kids.?

Another Zerohedge article about the insane Australian property market (which runs parallel to the Auckland market)  Food for thought!
"It's a total shock that maniacs who borrow nearly 100% on interest only terms to lose rental money to speculate on housing capital gains would love low interest rates. And with the lowest mortgage rates in Australian history, coinciding with the sloppiest lending standards in Australian history, combining with the highest property prices in Australian history, added to the highest household debt to income ratio in Australian history"

The lower interest rates go, and the more that the deflation idea takes hold, the greater the chance for a recession.
If the cost of consumables gets cheaper and cheaper because the costs of manufacture keep falling, then people will stop buying today in the belief that it will be even cheaper tomorrow .
Then manufacturers will cut prices more and more to stimullate sales, which will eventuate in cutting jobs so as to make goods cheaper still.
If you think inflation is bad just wait until you get a taste of deflation.

Personally, I do not buy from any retail shop until a sale - usually one every 2-3 weeks and you can tell when the big ones will be at certain holiday times.
It occurs many people do the same isn'tthat just deflation coming by your terms?

A run of deflation would be great news for the consumer. Bring it on, I say! More buying power for everyone.
Consumers have been buying computers, mobile phones, tvs, etc... for years yet they keep getting cheaper and cheaper and employing more and more people. NZers just don't put off buying something they want because they think it will be 1-2% cheaper in a years time. If that were true then there would be no such thing as consumer finance or credit card debt at 10-18%. In effect such are paying over 10%p.a. as interest extra just to have it now.
Due to cheaper oil manufactures don't need to cut jobs to produce cheaper products. When oil prices (which are currently below the marginal cost of production), rise (as they eventually must do) all the fuss about deflation will disappear.

Anybody who gets right what will happen is just lucky.  Near enough to a stopped clock being right twice a day.
Still, John Bolton is always worth listening to.

Stagflation would be worse.  

The 4.99% rate by SBS is the new standard now.   The dilemma is:  you can only get a good rate if you fix. Then if you fix, you can't choose/jump to a good rate.