This week there have been several specialist smaller lenders, particularly in the ‘Buy to Let’ mortgage sector that have withdrawn their whole mortgage product range due to increased ‘swap’ rates.
What is a ‘swap’ rate?
A swap rate is a rate based on what the markets think interest rates will be in the future. Wholesale lenders and institutions lend money to mortgage lenders that they then lend out as mortgages. Markets tend to set ‘swap’ rates at rates that they think they will be in the future. E.g., if you are wholesale lender borrowing wholesale money e.g., from another bank at the LIBOR (London Inter-Bank Offered Rate – the rate that lenders lend to each other), your wholesale rate may be higher meaning that when a mortgage then borrows money from the wholesale lender, the rate may be higher if the wholesale lender is expecting rates to rise. This then means that the mortgage lender will have to increase mortgage rates and deals that they are offering, or indeed withdraw their deals, if rates are going up.
The problem now is there is much uncertainty as to how the Bank of England will react to the recent, higher than expected inflation rate for April 2023 of 8.7% pa. Will the Bank of England increase interest rates by 0.25%, 0.5% or hold rates at the next Monetary Policy Committee meeting due on 22nd June 2023 after their increase by 0.25% to 4.5% pa on 11th May 2023?
With this uncertainty, wholesale lenders have pushed their rates up and specialist lenders are having to pull their product ranges, in particular fixed rate deals and reassess their products, rates and offers. There is little point borrowing money at a higher rate that you then cannot offload into mortgage lending if your product is uncompetitive or if the market goes flat due to higher rates.
Our concern is that this could spread to larger mortgage lenders who, by their size and lending booking, can ride or fluctuations in wholesale borrowing. If contagion does happen, this could mean as serious product shortage in the mortgage market, in turn pushing rates up due to demand.