The impact of the Bank of England Monetary Policy Committee’s (MPC) base-rate decisions on mortgage pricing is not as immediate as it once was. This is due to a circle of influences.
Previously, more UK consumers had residential mortgages — mainly variable rate. So, when the MPC increased the base rate, households felt it immediately. When the base rate hit a 15-year high of 5.25% in August 2023, 1.4 million people who were still on a variable rate suddenly had to find hundreds more pounds to cover future bills.
If and when swap rates rise, lenders’ pricing of products will usually transfer that cost to mortgage products
Today, with the higher cost of borrowing, fewer people have mortgages; of those, two-thirds have wisely opted for a fixed-rate mortgage over a number of years rather than a variable mortgage that can change monthly. As a result, there are fewer people affected by base-rate changes and with less immediacy.
Therefore, at a time of high inflation such as now, when the Bank increases interest rates in an effort to curb consumer spending and reduce inflation, it doesn’t work as quickly as it used to.
By the time the MPC has amended the base rate — or not — mortgage lenders have sometimes already made their pricing decision based on other influences.
This could be a defining year for democracy
Today, the success of our economy rests heavily on the monetary policies and politics of other countries; and, sadly, on global conflicts. Mortgage lenders are paying attention to global market sentiment, US monetary policy, inflation rates and, ultimately, swap rates.
When the US sneezes…
The influence of US markets on the UK economy is unquestionable; made evident when you compare the UK FTSE 100 to the US S&P 500 between December 1999 and December 2021.
Their index values were steadily intertwined until around 2013, when the S&P 500 began an impressive trajectory towards a value 300% higher than that of the FTSE 100.
The MPC is itself no doubt influenced by US inflation rates and the Federal Reserve’s base-rate decisions. The surprise hike in US inflation earlier this year, for example, startled markets and will surely have influenced the MPC in deciding to continue to hold at 5.25%.
The impact of base-rate decisions on mortgage pricing is not as immediate as it once was
Geopolitical risks — with the war in Ukraine and issues in the Middle East — all contribute to elevated inflation in the UK, impacting food and oil prices. And high inflation drives up swap rates.
This year is being described as the largest election year in history. Around half the world’s population, living in more than 60 countries, is holding national elections in 2024. That’s around two billion eligible voters, so this could be a defining year for democracy, which will certainly affect market sentiment.
Rough ride for swaps
Ultimately, it is the price of swap rates that determines many lenders’ margins, which is why they are key to lenders’ decision making on mortgage pricing. If and when swap rates rise, lenders’ pricing of products will usually transfer that cost to mortgage products, rather than lenders narrowing their own margins.
The success of our economy rests heavily on the monetary policies and politics of other countries; and, sadly, on global conflicts
Hence the recent stream of mortgage rate hikes, despite UK inflation continuing its downward trajectory to 3.4% in April. At the time of writing, that is the lowest rate of inflation since 2021, and it is 0.2 percentage points lower than the 3.6% rate that economists had predicted.
We are experiencing unfavourably — and, at times, alarmingly — high and fluctuating inflation in key global markets on both sides of the Atlantic. This volatility is making investors jittery. The knock-on effect is a rise in swap rates as lenders, insurers and pension funds look to hedge their interest rate exposure.
In the third week of April, for example, a three-year swap rose to 4.3% from 4.09% in March. This compares to 4.25% in April 2023. Meanwhile, a five-year swap rose to 4.05% from 3.81% in March, higher also than last year’s April rate of 3.96%.
The MPC is no doubt influenced by US inflation rates and the Federal Reserve’s base-rate decisions
While not as alarming as January’s 5% rise on December swap rates, these increases are still not great news for brokers or lenders who are trying to get new mortgage deals over the line.
At this stage, all we can really predict for the rest of 2024 is unpredictability.
There is general optimism that we’re on the right road, however, no matter how frustratingly bumpy it may be.
Adam Oldfield is chief revenue officer at Phoebus
This article featured in the May 2024 edition of MS.
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