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Last week the Bank of England raised its Bank Rate and there has been much discussion about the impact to customers.
Borrowers on a Bank Rate tracker will see their monthly payments increase by about £20 per month per £100,000 of mortgage. Those on a Standard Variable Rate (SVR) or reversion rates may see their mortgage rates increase by a similar amount as many lenders adjust those rates in line with changes in the Bank of England's Bank Rate. But the majority of mortgage borrowers have chosen fixed rate mortgages, perhaps in anticipation of a Bank Rate rise, so they will not see any increase at all in their mortgage rates.
And in the same way that customers take decisions about whether to fix an interest rate on their mortgage or deposit account, lenders take similar decisions, but on portfolios of deposits and loans, based on their own funding position and interest rate risk appetite.
Interest rate risk occurs because of the mismatch between assets, such as mortgages, and liabilities, such as deposits. It arises because of the fundamental maturity transformation role that lenders undertake for society, by borrowing from depositors for shorter periods such as overnight in the case of a current account balance, but on-lending those funds for longer periods - perhaps for a five-year fixed rate mortgage.
In a rising interest rate environment a lender's funding cost would increase while the return on its assets may not, if for instance they have been lent at a fixed rate. Lenders manage this interest rate risk by using hedging instruments such as futures and swap contracts. These minimise the impacts of interest rates changes on their net interest income (NII) - the difference between the interest rate they pay depositors and the rate they receive on the loans they have made. NII is an important parameter for lenders - it represents their profit margin - and contributes to the ability of the financial system to withstand a period of stress by enhancing regulatory capital ratios.
So the rates that lenders charge are influenced by a number of factors, of which bank rate is just one. Lenders will be impacted differentially, which will influence how they adjust their business models to a changed interest rate environment.
But the great news is that the UK mortgage market is highly competitive, with a range of different fixed and floating rate products available, which customers can use to manage their own expectations of and exposures to changing interest rates.
Five things to know about the mortgage rate market:
Simon Hills, Director, Prudential Policy, UK Finance
Jackie Bennett, Senior Advisor, Mortgages, UK Finance
26.04.24
22.04.24
24.04.24
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