Now that interest rates have started along their downward path the recommended borrowing strategy is to go short. By short we are talking six months or one year.
The thinking behind this is that although you will have to refix sooner than if you used a more traditional two-year fixed rate, you will be able to refinance at a lower rate.
Economists from ANZ and the Bank of New Zealand are suggesting this strategy at the moment.
ANZ says with falling interest rates, “the broader view remains tilted towards keeping borrowing relatively short in duration.”
The main drawbacks to this short-term strategy is that there is a cash flow cost at the start, as short-term rates are currently higher than medium or long-term rates.
However, ANZ says that borrowers stand to benefit from the associated pick-up and benefit as interest rates progressively fall.
There is a view when central banks start easing monetary policy the cuts are big and fast. We said this earlier in the month with the Reserve Bank making a 50 basis point cut, and more cuts of this magnitude are expected this year.
BNZ economist Tony Alexander says at some point in the cycle borrowers should move onto floating rates to ride the downturn down. However, for a long time now floating rates have been the most expensive option on the market and didn’t show any signs of budging.
Floating rates have fallen significantly since the Reserve Bank cut the OCR this month with most of them now sitting below 10.50%. Still when you look and compare them with shorter-term fixed rates the margin is still significant.
Looking at rates from an historical perspective one and two-year rates are closer to their five-year averages than longer rates. Indeed four and five-year rates still look very high on a historical basis.