Dancing with the interest rate devil

22 March 2010

In July 2009, Cascada’s Evacuate The Dancefloor was at the top of the charts. Since then the concentration of German dance music in the upper echelons of the Top 40 has fallen significantly. Most of us would argue that’s no bad thing.

Meanwhile, there has been a steady increase in new loans taken out at variable rather than fixed rates. Eight months ago the proportion of new loans taken out at Bank of England base rate tracker or discounted variable rates hit a low of 14%.

By December 2009 this had risen to 39%, with the proportion of fixed rate deals falling from 80% to 54%.

Now, it’s easy to see why Evacuate The Dancefloor is no longer at the top of the chart but not so clear what has driven the steady rise in variable rate deals.

First, borrowers may think the base rate is going to stay low for longer than they did last year. If they think that they’re wrong, but it might explain why they’re happy to take on interest rate risk over the course of the deal period.

Second, house prices rose 6% between July 2009 and January 2010 and borrowers may have wanted to take out cheaper variable rate deals to keep their first mortgage payments as low as possible.

Third, lenders have responded to this and the number of fixed rate products has shrunk.

One thing is certain - when the base rate rises buyers will realise the error of their ways and pile back into fixed rates. And when they do lenders will need to act accordingly.

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