All eyes will be on the Bank of England on November 7 when it announces its latest Bank Rate decision. After voting to reduce the rate to 5% in August, the first cut in more than four years, it kept the rate on hold in September, although a higher-than-expected fall in the inflation rate last month has increased market expectations that Bank rate will be cut to 4.5% at the next meeting.
Mortgage lenders have also been cutting their rates – and while lower rates are welcomed by homeowners, they are still set to remain high relative to where they were historically.
Given that most borrowers take out fixed-rate mortgages, with typically around half opting to fix for five years, this means there’s a significant lag between interest rates going up and borrowers rolling off their deal and feeling the pain in their pockets. And when rates fall, there’s also a lag before they can reap any benefits.
Homeowners who took out a five-year fixed-rate mortgage before September 2022 face higher monthly payments when they come to remortgage. For instance, a borrower who took out a £200,000 75% loan-to-value mortgage at a five-year fixed rate in October 2019 would have had payments of £820 a month. If they remortgaged today, they would see their monthly payments rise to £1,015 – an increase of £195, or 24%.
Interest rates started their precipitous rise from September 2022, in the wake of the Truss/Kwarteng “Mini-Budget” and, based on current future market expectations for Bank rate, anyone who took out a five-year fixed mortgage from then onwards will likely have to wait until September 2027 for their monthly mortgage repayments to start falling.
This analysis uses overnight index swap (OIS) yield curves from the Bank of England to forecast future interest rates, with an adjustment to take into account the difference between the base rate and mortgage rates. Based on market expectations for future monthly mortgage payments, someone remortgaging in September 2027 would spend £13 less servicing their loan each month, while someone remortgaging in October 2027 would pay £174 less each month.
Interestingly, financial markets expect Bank rate to start picking up a little from late 2028 onwards. This means there will potentially be some borrowers who fixed relatively recently at rates below the 2022-2023 peaks who may only see marginal savings when their deal expires.
Based on future market expectations, a borrower who took out a fixed rate in February this year and comes to remortgage in February 2024, would pay £40 less in mortgage costs each month. However, market expectations can and probably will change, while the increase in Bank rate also reflects the expectation that rates will rise over the long term.
Essentially, households who locked in during the last two years will probably be paying higher rates than new borrowers today. Given the expectation was that rates would rise in the short term before falling, it meant five-year fixed mortgage rates were cheaper than two-year rates, pushing more borrowers towards fixing for longer.
This means that, even though the Bank of England has started cutting interest rates, it will be another three years before longer-term borrowers start to see their repayments fall.
However, it’s important to note that these falls will come from a high base, keeping mortgage repayments well above their pre-pandemic levels. Indeed, while in the past older generations generally saw the cost of their mortgage fall over time, anyone who bought a home for the first time in the last decade is likely to face higher housing costs for longer.
