Some changing times for commercial lending, interest rate increases are here, as we move away from emergency settings for monetary policy.
This also comes at a time when Goverment support, in the guise of the SME Recovery Loans has tapered off too.
We have seen a significant rise in short and long term market rates. Other economies, have acted swiftly and aggressively to thwart inflation. Australia is catching up now too.
There is no escaping this time in the cycle is challenging for many, even though rates are still low in historical terms.
Along with the normal increase in interest rates, many credit providers will now be applying a forecasted interest rate rather than actual interest rate in their analysis. This provides an additional buffer when assessing the capacity to service debt over the term of a loan.
Most Interest Cover Ratios and other guidelines will remain the same, just now a bigger hurdle to overcome to demonstrate capacity.
For many investor clients, or for lease doc type applications for example, this may mean that borrowing capacity is materially restricted.
Should I fix Interest Rates Now?
If you are looking for fixed rates, we feel that ship has sailed. For example, a recent 250 basis point increase in 3 year money has seen banks react swiftly. Presently, the average 3 year fixed mortgage is priced actually very high - with a margin of around 170 basis points over the respective wholesale rate the norm over time.
Using mortgages as an example, for monthly intervals between 1990 to 2019, you would have been better off taking a 3 year fixed rate only 13% of the time.
How will Banks React?
Funding costs have been biting for banks, and an increase in the official cash rate will be a relief for lenders.
It is helpful that domestic deposits, thanks to Government stimulus, now represents over 60% of funding composition for the majors, with banks not testing markets with issuing any new bonds.
A slowdown in activity will be in part a relief for some parts of many lenders. That said, competition remains really strong and more creativity will come into the commercial lending landscape.
How can I prepare my Customers for Rate Rises?
In a low rate environment, borrowing capacity is obviously stronger. Strategies for success could focus on:
- Sensitise borrowings at a buffer of another say 2.0%. See what the cashflow impact is and plan accordingly.
- Consider whether it is a better "opportunity cost" to retire more debt whilst interest rates are rising, reducing future pressure to cash flow.
- Consider whether you can restructure or refinance your borrowings to different products which have lower interest rates.