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Can consumers steal a march on the markets when it comes to interest rates?

Friday 6th October 2017

Written by Martin Upton

Following the rise in price inflation in recent months and messages emanating from the Bank of England and UK economists it seems that Bank Rate - also known as the ‘official interest rate’ - will soon be raised by the Bank’s Monetary Policy Committee (MPC). 
Such a move would be the first increase in Bank Rate since July 2007. In the light of this borrowers are being encouraged to lock into fixed rate deals now ahead of the upward move in Bank Rate. 
Yet such advice is often flawed as financial consumers usually find that as soon as a rise in Bank Rate is in the offing the ‘bus has been missed’ in respect of the best fixed rate mortgage and loan deals. 
Why is this usually the case?
Fixed rate loans and mortgages are priced by lenders by reference to the rates they have to pay to raise those fixed rate funds which are then, in effect, lent on to the public. This pricing is usually undertaken via the prevailing rates in the so-called ‘swap market’. 
This is a market which enables banks and other lenders to convert variable rate funds to fixed rates to provide those fixed rate products to households. Rates in the swap market are, in turn, linked to yields on government bonds (or ‘gilts’). So these fixed-rate government bonds provide the basis for the ‘swap’ rates which, as explained above, drive the rates on fixed rate products offered to the customer.
The government bond and swap markets are very efficient. They pretty much instantly digest the implications of published economic data and public statements about the direction of future interest rates by those who have an influence on the matter (e.g. the Governor of the Bank of England or, indeed, any other member of the MPC). So if economic data and sentiment imply a change in expectations about future interest rates then market prices will adjust very very quickly. 
If the expectation of an increased level of Bank Rate grows – as it has been doing lately – gilt yields rise, ‘swap’ rates rise and, with them, the rates on fixed rate products rise. With this swift adjustment to rates in the financial markets consumers will find that existing fixed rate products are ‘pulled’ very quickly by the banks and other lenders. Unless you are very quick or lucky those ‘cheap’ deals will no longer be on the shelf.
This demonstrates that if you are to be a smooth operator when it comes to fixed rate products you need to be able to out-guess market sentiment when it comes to the timing, and degree, of changes to Bank Rate. If you do forecast an increase before the markets form such a view you can secure those best fixed rate deals before they vanish. But this only applies if you not only have the confidence to take on the markets in this way but also the skill and, frankly, the luck to do so successfully. 
Those without these qualities will normally find themselves just chasing a departing bus when trying to bag a ‘cheap’ fixed rate loan or mortgage after the financial markets have the scent of an increase in Bank Rate in their nostrils!
*Martin Upton is director of True Potential PUFin

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