Borrowers whose mortgages are due to roll off a 1-year fixed rate will be readily affected by a cash rate rise, as will those with mortgages on floating interest rates, an economist says.
And new borrowers should consider the possibility of higher mortgage rates when their loan is drawn down.
The Reserve Bank is set to review the official cash rate (OCR) on Wednesday as part of a scheduled Monetary Policy Statement. Currently a record-low 0.25 percent, the cash rate has been left unchanged since March 2020 - and hasn't gone up since July 2014. Following a drop in the official unemployment rate to 4 percent in the March 2021 quarter, bank economists revised their forecasts, widely expecting the cash rate to come off its emergency setting.
ASB is forecasting three cash rate rises in August, October and November, each by 25 basis points. The bank expects the cash rate to reach the pre-COVID level of 1 percent by the end of this year.
Kiwibank is forecasting four rate rises in "relatively quick succession" starting with a 25 basis point rise in August, taking the cash rate to 1.5 percent by the end of 2022.
ASB senior economist Chris Tennent-Brown told Newshub if the cash rate rises as forecast, short-term interest rates will "come under the most pressure". On Tuesday, standard 1-year rates offered by ANZ, Kiwibank and Westpac were above 3 percent (ASB and BNZ at 2.55 percent).
Referring to 1-year fixed-rate mortgages as the former "sweet spot", he expects borrowers with mortgages rolling off 1-year fixed rates to feel the pinch first.
"Over the next six months, there will be people rolling off rates 2.5 percent and below that will almost certainly be rolling into higher interest rates," Tennent-Brown said.
If the cash rate moves to 0.75 percent in October, borrowers who put their mortgage on a 2-year rate before COVID-19 will still have the option to refix at a lower rate.
"Someone who fixed a couple of years' ago will be coming off [a rate] in the 'mid 3s', if they wanted to fix again for 2-years, even if the rates went up by 50 basis points, they could still fix at a lower rate," Tennent-Brown added.
Options for mortgage borrowers amid rising interest rates
Based on current forecasts, ASB says it's prudent to expect mortgage rates to go up by 1 to 1.5 percent over the next couple of years.
Borrowers thinking about whether to fix their mortgage and for how long must weigh up their need for flexibility (e.g. plans to sell or repay the mortgage) against their need for protection from future rate rises.
1-year fixed rate
On Tuesday, 1-year fixed rates were still among the cheapest fixed rates, the five large banks offering 2.55 percent to 3.34 percent.
For borrowers able to pay more in a year's time, choosing the 'cheapest is best rate' now could be an option.
"Based on our forecasts, in a year's time we'd expect to see the 1-year rate about a percent higher than it is now (as Reserve Bank hikes flow through to funding costs)," Tennent-Brown said.
2-year and 3-year fixed rate
Another option is to choose the middle road and go with a 2-year or 3-year fixed rate.
"Fixing for two and three years provides a bit of flexibility but protection against higher rates we expect will come over the next six-12 months," Tennent-Brown said.
A July mortgage survey by Independent economist Tony Alexander and mortgages.co.nz showed for borrowers wanting "insulation" against predicted higher rates, the 3-year fixed interest rate was the most popular.
"You could fix at three years for a little over 3 percent [from 3.25 percent on Tuesday] so you're paying 70 - 75 basis points more than you could get for a one-year rate [from 2.55 percent]," Tennent-Brown said.
5-year fixed rate
Borrowers needing certainty on what their mortgage repayments will be could consider a 5-year rate, bearing in mind fixing for that long provides less flexibility if things change.
Formerly 2.99 percent, 5-year fixed rates offered by the main five banks start from 3.99 percent on Tuesday (ASB and BNZ). Expectations of cash rate rises were already priced in.
"The 5-year rate might only move up fractionally from today (one quarter- to-half a percent)."
Reserve Bank mortgage data collated by Kiwibank shows around 15 percent of mortgages are on floating (variable) rates, and therefore will be readily affected by higher interest rates. Around 45 percent of mortgages are due to roll off fixed rates over the next three-to-six months, 75 percent over the next year.
The Reserve Bank Monetary Policy Review will be announced on Wednesday afternoon.