Why are UK mortgage rates rising and will they keep increasing?

Homeowners are being hammered by a spike in mortgage rates.

The average two-year fixed-rate mortgage has broken the 6 percent mark, leaving those who need to take out a new mortgage or buy a home with much higher monthly bills.

But why have mortgage rates suddenly risen so sharply, are they continuing to rise and what can borrowers do if they need a mortgage? We explain.

Why are mortgage rates rising?

Mortgage rates have skyrocketed over the past month as financial markets see the Bank of England need to raise bank rates, known as the base rate, more than previously expected.

The Bank of England’s Monetary Policy Committee sets the base rate to try to keep inflation at the 2 percent target.

A major inflation spike in the past year has caused the official inflation rate of the UK consumer price index, CPI, to far exceed that target and jump into double digits.

It had been hoped that inflation would now have fallen significantly, obviating the need for further increases. But while the latest ONS inflation numbers showed CPI falling out of double digits to 8.7 percent in April, there was a sting in the tail end of core inflation.

Core CPI inflation — excluding volatile energy and food prices and tax-heavy alcohol and tobacco costs — rose from 6.2 percent to its highest level since March 1992 at 6.8 percent.

That core inflation rate was the trigger for the current turmoil, with further inflation data on jobs and wages since then adding to the problems.

New inflation data will be released tomorrow from the Office of National Statistics.

The Bank of England made an interest rate decision the next day, on Thursday, and is expected to raise the base rate by 0.25 percentage point to 4.75 percent. Although some economists suggest an additional 0.5 percent could be added to the base rate.

More worryingly for mortgage borrowers, this is no longer seen as the last hike and the Bank is expected to continue to raise base rates this year. The most pessimistic economists and market commentators see a peak of 6 percent.

In response to these heightened expectations, both government bond yields (the interest rate on government borrowings in the UK) and swap rates – the money market rates that lenders use to price fixed-rate mortgages – have risen significantly.

This is reflected in mortgage prices and means that the average two-year fixed mortgage rate fell from 5.34 percent on 19 May to 6.07 percent on 20 June.

Moreover, even big lenders who don’t have to resort to the money market to finance mortgage loans are pulling deals and raising rates. Banks and building societies are wary of getting caught by borrowers if they get the best deals available.

> True Cost Mortgage Calculator: check what higher rates add to your mortgage

Will mortgage rates continue to rise?

Persistent inflation is bad news for mortgage borrowers, as it increases the likelihood of further rate hikes in this cycle.

The recent spike in mortgage rates was rapid and dramatic, reminiscent of the market getting ahead of itself after the mini budget.

Mortgage rates now being offered are largely price in the financial markets, thinking that the base rate will peak at around 5.86 percent early next year. That is 1 percent more than when the Bank of England issued its last interest rate decision in May.

If that remains the central forecast, it is likely that interest rates will rise some more, but as the market calms down, the increases will run out. But a further rise in interest rate expectations, or a period of financial turbulence, would drive up mortgage rates even further.

Worryingly, government bond yields continue to rise, with two-year government bonds rising to 5.085 percent on June 19 – to hit a 15-year high.

Andrew Goodwin, chief economist at Oxford Economics, told This is Money: ‘It is clear that the UK has an inflation problem that is worse than in other countries. That requires the BoE to raise interest rates further and then leave them at that higher level for some time.”

When will mortgage rates start to fall?

With inflation continuing, core inflation a concern, labor market tightness and wages rising sharply, the Bank of England seems determined to stick to rate hikes.

It has indicated its willingness to raise interest rates to fight inflation, even if it triggers a recession.

However, current market expectations for interest rates are dramatically higher than in recent months and could soon be lowered if inflation begins to fall rapidly and inflationary pressures ease.

An easing of the outlook for inflation and base interest rate hikes would calm the market and encourage mortgage rates to stop rising and possibly start falling.

Whether that decline will be as substantial as it was after the mini-Budget mortgage rate spike remains to be seen.

Mortgage experts are divided on when interest rates will fall, advising borrowers not to rely on sharp falls and to plan for mortgage rates to remain high.

“The honest answer is that there are still too many variables and we can’t rule out further interest rate hikes over the next few months,” said Nicholas Mendes, mortgage technical manager at broker John Charcol.

How much more do I have to pay on my mortgage?

Borrowers taking out popular two- and five-year fixed-rate mortgages face major jumps in their monthly payments.

In June 2021, the average two-year fixed interest rate for a borrower with a 25 percent down payment was 2.17 percent, according to Moneyfacts. The average interest rate on the same mortgage is now 5.94 percent.

For someone with a £200,000 mortgage over 25 years, this is a £417 difference between paying £864 a month and paying £1,281.

In June 2018, the average five-year fixed-rate mortgage for a borrower with a 25 percent down payment was 2.72 percent. The average interest rate on the same mortgage is now 5.67 percent.

For someone with a £200,000 mortgage over 25 years, this is a £324 difference between paying £920 a month and paying £1,244.

Our mortgage interest calculator shows how much bills can rise.

Individual circumstances will change how much a household’s mortgage bills will increase, ranging from the size of the loan and the value of the home, to the rate they’re set at and how long they have on their mortgage.

Homeowners can check how much they would pay based on their home’s value and loan size with This is Money’s best mortgage interest calculator.

How do I find the best mortgage interest?

Borrowers whose current fixed-rate contract is coming to an end are facing much higher costs and should explore their options as soon as possible.

Those who have agreed to buy a home should also check how much they can borrow and monthly payments and consider closing a deal.

Borrowers should compare rates with their existing lender as well as with a mortgage broker and be prepared to take action to secure the option of a new rate.

Anyone with a flat-rate contract expiring in the next six to nine months should look at the best rates they can get — and consider getting a new contract. Often there is no obligation to take it.

With rates currently rising, it’s possible if you plan ahead they could fall by the time you need the mortgage. Most mortgage agreements allow fees to be added to the loan and are not charged until it is closed. By doing this, borrowers can secure a rate without paying expensive arrangement fees.

Ask your broker and check if you are required to take the rate or can switch to a cheaper deal if rates drop before you take out the mortgage.

This is Money has a longstanding partnership with free broker London & County to help readers find mortgages.

You can use our best mortgage interest calculator to display deals that match your home value, mortgage size, term and fixed interest needs.