In April, I signed up for a variable-discount mortgage product in hopes that interest rates would continue to fall and I could get a better deal. However, now they are rising and I feel stuck.
My current mortgage term is 11 years with a balance of £111,000. My house is worth about $400,000.
My question is, can I drive it and hope the rates drop? Or should I take the plunge and sign up for a flat rate in case they keep going up? Via email
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David Hollingworth replies: Mortgage borrowers got used to taking fixed interest rates for so long, as interest rates were so low there was little chance of them getting much lower, so the risk was that they could only go up.
At the same time, fixed rates were often equal to or in some cases even lower than the variable rate options, so it often became more a matter of how long to fix than a matter of how long to fix.
With interest rates rising, things are returning to what traditionally would have often been the dilemma faced by borrowers – fixed or variable.
In a higher interest rate environment, that will probably only increasingly be the case, as borrowers will have to consider which way interest rates could go.
When fixed mortgage rates spiked after the mini budget, we saw many borrowers turn their attention back to variable deals.
Although it was expected that base rates would have to rise further, which is already the case, borrowers were put off by the rapid escalation of fixed rates.
Many chose to take rebates or trackers with no Early Repayment Charge (ERC) as an alternative to being locked into a flat rate at a high point.
That seemed like a good move as fixed deals stabilized and fell back earlier this year.
Higher inflation rates, however, mean that fixed interest rates will rise again and that more borrowers will again look for the security of a fixed interest rate.
There are different types of variable mortgage agreements on the market and it’s worth understanding how they work.
For example, Santander tends to offer base rate trackers that are directly tied to the Bank of England base rate.
Trackers provide clarity on how they will react to interest rate movements as they move up and down in line with the base rate plus the specified margin.
Discounted variable rate is a term often used to describe a rate that is discounted from the lender’s standard variable rate.
The standard floating rate will often change as interest rates fluctuate, but the lender has control over those changes, so if the base rate were to fall, the lender could theoretically lower the SVR by less or not at all.
Likewise, they could decide not to raise the SVR, allowing it to go either way, although so far some of the largest lenders have risen in line with base rate movements.
Trackers and variable rates can carry an ERC just like a flat rate, but it’s much more common to find deals that don’t commit you, giving you the option to jump ship if necessary.
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Some lenders may apply an ERC during a follow-up rate, but still offer borrowers the option to switch to one of their flat-rate deals without paying a penalty.
Having the option to switch is useful, but of course getting the timing right is the hardest part. Ultimately, no one knows how interest rates will fluctuate, but the market currently expects base rates to have to rise further as the Bank tries to curb inflation.
However, longer-term fixed rates still have lower rates than shorter-term deals, suggesting that rates are expected to fall over time.
Swap rates – the money market rates that lenders use to set fixed-rate mortgage prices – have risen significantly in recent weeks
It’s impossible to know if that will turn out to be correct, when rates might drop or by how much.
As a result, it makes sense for you to think about how comfortable you feel riding things out.
You should brace yourself for more payment increases and it makes sense to stress test your own budget to see how payments might increase for different steps of rate increase.
That should help you understand how stretched you are or if you think you have enough flexibility to absorb those increases in the hope that rates can start to come down.
If you think there is a risk of stretching your monthly budget too much, it may be more attractive to stick to a flat rate.
While not at the lows of recent years, fixed rates still give the assurance that you know where you stand for a period of time, regardless of the ups and downs of interest rates.
In the end no one knows what will happen and it all comes down to your attitude towards the risk of rates rising further and how well you can cope.
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