Avoiding the mortgage meltdown

It’s looking increasingly likely that we could see two or perhaps even three quarter point cuts in the base rate over the next several months. This will come as welcome relief for mortgage holders who have faced a steady procession of rate rises over the last couple of years.

But it’s not all good news. Some people are wondering whether these rate cuts will be passed on by mortgage companies. They might decide to leave their rates unchanged and boost their profits to make up for some of the damage caused by the ongoing credit crisis.

If this does happen then those with tracker mortgages are in the best position. They will automatically get any rate cut passed on in full. Most tracker mortgages also have a short time limit of a month or less by which time a rate change has to be applied. This makes a pleasant change from most other mortgage deals where rate rises are often passed on straight away but rate cuts always seem to take that little bit longer! Tracker mortgages have accounted for between 15% and 20% of all mortgages taken out in the last couple of years, so quite a few people will find themselves in this fortunate position.

Fixed rate mortgage holders may be affected although not straight away. Those whose fixed rate is due to expire in the next year or so may find the rate they’re reverted to is higher than they expect and it’s harder to get a competitive deal if they try to remortgage.

Sneakiness with SVRs

Those on their lender’s standard variable rate (SVR), estimated to be around 40% of mortgage holders, will be most affected by any rate cut reluctance. Those with discounted rates will also be hit as these are usually tied directly to the lender’s SVR. It’s worth remembering that lenders are under no obligation to pass on any rate cut, other than the fact it’s likely to lose them business of course.

The difference between the base rate and SVRs has widened quite significantly over the last ten years, with lenders sneakily increasing their profit margins. Back in 1997 the difference between the base rate and SVRs was commonly 1.3%. So a base rate of 5.75%, the level it is today, would imply an SVR of 7.05%. Today a gap of 2% is more typical, resulting in SVRs clustered around 7.75%.

Most of the big seven lenders, who account for two-thirds of all mortgages, charge this sort of rate. Nationwide is cheapest of this bunch with an SVR of 7.24%. Still, with many new deals available for less than 6%, paying your lender’s SVR is nearly always going to mean you’re paying far more than you need to. Indeed, the SVR is the most expensive rate your mortgage lender charges!

It’s hard to find a lender that charges an SVR of less than 7% but it is possible. Most the lowest rates come from small building societies but there are some notable exceptions. First Direct, part of HSBC, charges 6.99% and ING Direct, a new entrant to the market, has the lowest SVR at just 6.24%. Whether it will remain this low is questionable however, as ING may use the same tactic as it did with its savings account and make the rate steadily less competitive after a couple of years.

Standard Life’s rate rise

Although the Bank of England has left the base rate unchanged at its last four monthly meetings that didn’t stop one lender from announcing a rate hike last week. Standard Life said it was increasing its SVR by 0.15% to 7.66% for loans of 90% or more of a property’s value. Loans for less than 90% saw a similar 0.15% increase to 7.46%.

It’s very unusual to see a lender move its rates when there have been no change in the base rate. It’s even more unusual to see a mortgage rate hike at a time when rate cuts are predicted. Standard Life is the seventeenth largest mortgage lender with a 1% market share so it’s not that big a player. But you can bet the larger mortgage lenders will be watching closely to see how this rate increase is received by its customers.  

“Testing times” for mortgages

New mortgage lending showed a surprise 6% increase in October but most of these numbers come from deals originated before the current credit problems. The Council of Mortgage Lenders expects mortgage lending to fall for the remainder of the year and issued a stark warning that “the next few months will be a testing time as ongoing pressures in financial markets feed through into the wider economy. Funding constraints will continue to restrict lending activity and make loans more expensive.”

So it sounds like the ground is being laid for bad news on the mortgage front. Base rate cuts may be in the offing but mortgage rates may not be following suit.