Millions of mortgage borrowers will continue to face a financial shock in the coming years as they continue to abandon cheap fixed rate deals.
An estimated 1.6 million homes will need to be remortgaged this year, many of which will get rates below 2 per cent.
This pain is expected to continue into 2025 and mortgage rates are unlikely to fall dramatically from where they are now.
Yesterday, the Office of Budget Responsibility forecast that the average mortgage rate will peak at 4.2 percent in 2027.
Less painful? Average mortgage interest rates (taking into account all mortgage households) are expected to peak at 4.2 per cent in 2027. This is 0.8 basis points below the OBR’s previous forecast.
This is up from a low of 2 percent at the end of 2021 and above the average mortgage interest rate in the 2010s of around 3 percent.
The average OBR rate includes all fixed and variable rates that households currently pay.
This includes those who stay on very low fixed rate deals, which is why rates are lower than the average market rate, which many will be more familiar with.
The average market rate, as reported by Moneyfacts, takes into account all fixed rate offers currently available to those purchasing or remortgaging.
This includes the cheapest rates, but also the most expensive ones, reserved for those with specific circumstances or poor credit history.
Currently, the average two-year fixed mortgage rate is 5.76 per cent and the average five-year fixed rate is 5.34 per cent, according to Moneyfacts.
While average rates are useful for tracking the market as a whole, in reality many people will be able to do much better than average.
The cheapest five-year arrangements for those with at least 40 per cent equity or a deposit are currently just above 4 per cent.
Even the cheapest five-year fixed rate deals for those with 10 per cent deposits or equity are around 4.6 per cent.
Mark Harris, chief executive of mortgage broker SPF Private Clients, says: “Average mortgage rates are always of limited usefulness as they can mask a significant range of prices, from the cheapest rates for those with significant capital to bargain offers. much higher prices for those considered higher risk because they do not have much deposit.
‘That said, borrowers need to get used to higher interest rates and paying more for their mortgages.
“Many will face a significant hit to their payments when they move away from cheap fixed rates and it is important to plan ahead, using a broker who covers the entire market to ensure they do not pay more than necessary.”
What’s next for mortgage rates?
The good news is that the OBR’s latest mortgage rate forecast was 0.8 percentage points lower than what it previously forecast in November.
The OBR said this was due to a decline in market expectations for the Bank of England’s base rate, which currently stands at 5.25 per cent.
The base rate is important because it determines the rate of interest paid on reserve balances held by commercial banks at the Bank of England.
Therefore, by setting the base rate, the Bank of England can control short-term market interest rates.
The OBR says the market now expects the base rate to fall this year from its current high of 5.25 per cent to 4.2 per cent by the end of 2024.
Looking ahead, however, markets are currently only pricing in the base rate to fall to 3.8 percent by the end of 2025 and eventually reach 3.5 percent in 2027.
Is the worst behind us? Mortgage rates have risen again after retreating from summer highs.
For mortgage borrowers, these market expectations are reflected in Sonia’s swap rates.
Mortgage lenders enter into these agreements to protect themselves against the interest rate risk involved in making fixed-rate mortgage loans.
More simply put, swap rates show what lenders believe the future will hold in relation to interest rates and this governs their prices.
As of today, five-year swaps were at 3.88 percent and two-year swaps were at 4.49 percent, both trending below the current base rate.
To put this in context, from a historical perspective, it is very rare for lower-priced fixed mortgage rates to fall below swap rates, although that did occur in January for a very short period of time.
If the base rate starts to fall, this could send good signals for the industry, meaning swaps could fall further.
But that doesn’t necessarily mean there will be significant rate cuts on all fixed rate products right away due to the fact that lower rates have already been priced in because there is already an expectation that rates will fall.
Economist Andrew Wishart says many of the cheapest mortgage rates are very close to swap rates, which he doesn’t see falling further until the Bank of England starts cutting them.
Last week, Bank of England chief economist Huw Pill, speaking at Cardiff University Business School, suggested a base rate cut is still some way off.
He warned: ‘We need to protect ourselves from being lulled into a false sense of security about inflation.
‘While I recognize that we are now seeing early signs of a downward shift in the persistent component of inflation dynamics, those signs so far remain provisional. In my opinion, there is still a long way to go before that evidence is conclusive.
‘Even if we were more confident that the persistent component of inflation was declining, that does not imply that the MPC would no longer need to maintain its restrictive stance.
‘The time to reduce bank rates is still far away.
‘I need to see more convincing evidence that the persistent underlying component of CPI inflation is being reduced to rates consistent with a durable and sustainable achievement of the 2 per cent inflation target before voting to lower the bank rate.
“It is that view that led me to vote in favor of keeping the bank rate unchanged in February.”
That said, economists at Capital Economics noted that the OBR made a big downward revision to its CPI inflation forecast.
The OBR now expects CPI inflation to fall from 4 per cent in January to less than 2 per cent in the second half of the year, to a low of 1.1 per cent in early 2025 and to remain below 2 per cent. cent until 2027. .
In November’s Autumn Statement, the OBR did not expect CPI inflation to fall below 2 per cent until 2025.
This leaves as an outlier the Bank of England’s February forecast that inflation will remain above the 2 percent target for most of the next three years.
It may not be long before the Bank starts to worry that inflation is too low. In theory, this could encourage its members to reduce interest rates further and faster than markets have currently priced in.
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