To float or fix long (or short)?

For quite some time now (at least since July/August last year), the decision about which loan type to take when either buying a house, switching banks, topping up a loan, or rolling over an existing fixed mortgage seems to have been relatively easy for many people – take either a floating or short-term fixed rate (say 6-12 months) and ride the wider interest rate wave down.

But the decision right now might not be quite so straight-forward and certainly we’re seeing in the data that a split is emerging. Indeed, the Reserve Bank’s figures for February showed that 41% of new lending (which excludes existing loans rolling onto a new fixed rate) was on a floating rate, 39% fixed for 6-12 months, and the remaining 20% fixed for longer than a year.

The interesting thing was that the 6-12 month share was the lowest since December 2023 (36%) while the proportion going out on terms longer than 12 months was at a seven-month high. In other words, as the official cash rate (potentially) gets closer to its eventual trough and mortgage rates themselves also start to flatten out across the various loan durations, the data tells us that there’s a lot more uncertainty about what the best borrowing strategy really is.

No doubt some questions in borrowers’ minds are things like:

• Do I pay more now on a floating rate (e.g. 6.9% vs say a 1-year fix of 5.3%) to hopefully lock in a lower fixed rate a wee bit later at (hopefully) the absolute bottom of the cycle?
• Do I just take a three-year fix at say 5.3%, or instead take a two-year fix at 5% (or a bit less) and hope that market rates haven’t risen significantly above 5.3% two years down the track?
• How much do I really value the lowest cost right now versus taking a longer-term fixed rate that’s higher but provides certainty over a more sustained period?

Ultimately, I’m not a financial adviser and the answers to those questions are down to each individual (and their qualified advisers). But what I can say is that these decisions are never easy – and just look back at 2021 when in hindsight, instead of taking a one or two-year fix at <2.5%, borrowers should have probably all locked in for five years at around 3%. For those wise (or lucky) few that did take this option, they’re right now still sitting pretty at 3% and paying interest rates that never soared above 7% and also remain below today’s levels too.

There are also plenty of other interesting aspects to the mortgage market at present. For example, first home buyers (FHBs) continue to absorb most (75-80%) of the low-deposit lending flows that go out to owner-occupiers more generally, and around two in every five FHBs are making a purchase with less than a 20% deposit. With property values also still down by around 16% nationally from the 2021/2022 peaks (and 21% in Auckland; 24% in Wellington), some of the barriers to entry for FHBs remain quite a bit lower than at certain points in the past.

By contrast, although the debt to income ratio limits (DTIs) (no more than six for owner-occupiers and seven for investors) aren’t really binding en masse at the moment – because there’s a ‘generous’ 20% allowance for the banks to lend outside the caps – there’s still a growing amount of anecdotal evidence that the DTIs are more of a challenge for some individual borrowers.

Overall, the general availability of credit as well as mortgage rates themselves will remain a key topic in the housing market this year, as they always are.