Interest rates

Joey the lips

Hi Folks

I posted this question elsewhere but I dont think its understood. I am trying to gauge the movement of interest rates. Granted if I could do it as an exact science I would be wealthy but I am stuck. I am wondering should I hedge myself and rish a 3 point rise in 3 years or fix it now 3 points above the variable rate and pay now.

Looking for a pce of advice. my massive 3 year interest rate of 4.75% has just come to an end. As expected I received a letter from my bank asking me i wanted a new rate or to go variable.

Now the variable rate is 2.63%

The fixed rates start off at

4.05 - 3 year

4.6% - 5 year

5.1% - 10 year

As i said above My instinct is to let it ride at variable. The way I see it is even if there is a rate increase it will most likely be half percent which is 3.25% still a long way off 4.05. But then i hear economists say that the cost of money is far to low at the moment and will have to increase to stimulate investment.


What would your opinion be

Stay variable and risk the rises

Go fixed for 3 years and sleep easier with less money...

As broad as the question sounds, does the interest rate need to rise because of the cost of money. How much would it need to rise and will it come anywhere near the 3 year fixed rate.

If I am not making sense ask questions however I would appreciate if you can develop the answer more that it would make sense to fix... If you understand the problem you will know exactly what I mean and for this i would be greatful. Truly.

Advice appreciated.

hinault

Staying with the variable rates, you run the serious risk of your lending institution applying increases of it's own volition, independent of any changes to varible rates from the change in ECB rates.

Whereas if you fix - you will at least know where you stand.


Be certain of one thing - rates will increase toward the end of 2010 and/or early 2011.
The median ECB rate - under normal conditions - is between 3 and 4 percent.

Joey the lips

hinault wrote: »

Staying with the variable rates, you run the serious risk of your lending institution applying increases of it's own volition, independent of any changes to varible rates from the change in ECB rates.

Whereas if you fix - you will at least know where you stand.


Be certain of one thing - rates will increase toward the end of 2010 and/or early 2011.
The median ECB rate - under normal conditions - is between 3 and 4 percent.

Thank you

What is the current ECB rate. As this gives me an idea how much above it the bank sets it.

Is there a guesstimate of how much it would increase?

Look at the yield curves of some EU Government Bonds' to see where the market thinks the interest rates will be going.

Joey the lips

Deleted User wrote: »

Look at the yield curves of some EU Government Bonds' to see where the market thinks the interest rates will be going.

Thank you. Where would i do that.

Bloomberg and Yahoo finance give free data. If you are a college student, or know one, then something like Datastream has all the data.

Time Magazine

Pick your favourite secure European country (probably Germany); check what interest rate their five-year government bonds are trading at. Contrast that to what the base ECB base rate is. Look at the difference and have a think about what it implies where interest rates might be going.

Then have a look this and do some sums.

I'm not giving you exact formulae/numbers for this because, imho, yield curves are a bit wishy-washy. They provide useful information, and can help form opinion, but take them with a pinch of salt.

Time Magazine

Time Magazine wrote: »

I'm not giving you exact formulae/numbers for this because, imho, yield curves are a bit wishy-washy. They provide useful information, and can help form opinion, but take them with a pinch of salt.

That is a good point - they show what the market currently thinks the rates and risks will move, but a lot of time and money goes into them and they are a good place to start. I wouldn't bet the house on one blindly though.

Joey the lips

Time Magazine wrote: »

Pick your favourite secure European country (probably Germany); check what interest rate their five-year government bonds are trading at. Contrast that to what the base ECB base rate is. Look at the difference and have a think about what it implies where interest rates might be going.

Then have a look this and do some sums.

I'm not giving you exact formulae/numbers for this because, imho, yield curves are a bit wishy-washy. They provide useful information, and can help form opinion, but take them with a pinch of salt.

I did this the curve is up and down for germany. However it does not rise above 4% this on top of the ECB 2.5% Would would this hypothetically suggest in your opinion....

Time Magazine

This really isn't my area of expertise, but let's give it a shot.

First off, let's go through an example to get the point across. Bankers in Country X are willing to lend money at a certain rate of return, say 10%. Now suppose everyone expects inflation in Country X is going to be 3% - then the bankers will demand an interest rate of 13% so they can get their "real" 10%.

Grand. Now realise that inflation goes the opposite way to inflation interest rates. The ECB don't want high inflation so to combat that, they'll raise interest rates.

So if the Country X's interest rate is 14% instead of 13%, people think inflation will be 4% instead of 3%. All other things equal*, you'd expect that to be caused by lower interest rates.

The 3-year UK bond yield is 108.8, but 105.8 for Germany. That suggests that people expect UK inflation to be higher than Germany's over the next three years.** If that's going to be the case, that's probably because interest rates will be lower in the UK. So just going by this little bit of evidence, it seems that people are expecting the ECB will be tougher on interest rates than the Bank of England. Your interpretation of that is as good as mine tbh.

FWIW I tend to agree with you that you should stick with your variable rate at the moment. I would suggest though that you hedge against the risk, if you can afford to. By that I mean it mightn't be a bad idea to imagine interest rates are actually e.g. 4.5% and instead of putting those few euros in the difference into your pocket, save them. This has three advantages. First, it will protect you against any future increases beyond what you expect (which could well happen - you might look back in five years and be pissed off you didn't go fixed rate). Second, it will get you/your spouse(?) into the habit of only spending as much money as you'd have if interest rates reach 4.5% (which they almost certainly will). Third, even if interest rates remain low for a couple years it will be because of low inflation/deflation, so your money will retain its value and you'll have a little nest-egg for a rainy day/new car/whatever.

But, of course, all this comes with the caveat that it's not financial advice and it's only my opinion etc.

* This is a problem, not all other things are equal. That's the wishy-washy bit I was talking about above.
** I'd say it's also because the probability of Britain defaulting is higher than Germany's.

kmick

All this talk of where Interest rates are going to go is speculation. Even the ECB meet to decide. They dont map it out.

What you want to ask yourself is what is your appetitie for risk. The way I look at it fixing allows you to KNOW your repayments for that period and is therefore risk free whereas the variable is cheaper but there is a risk they will rise. You are paying for certainty.

Also you have to look at what the bank are saying remember they have more expertise, experience and acumen than you can call on.
Their fixed rate for 10 years is 5.1% so what they are essentially DECLARING is "We think our own interest rates over the next 10 years will not top 5.1%".

So assuming you build in an average 1.75% margin what they are saying is
3 Year ECB rate no greater than 2.3
5 Year ECB rate no greater than 2.85
10 Year ECB rate no greater than 3.35

ECB is currently at 1% so you win @variable if they rise less than 1.3 in 3 years, 1.85 in 5 years or 2.35 in 10 years.

Personally I like the 3 year fixed rate but I would only fix if it were a small amount. Conversely the larger the amount the more I want to be on variable.

Time Magazine

Time Magazine wrote: »

This really isn't my area of expertise, but let's give this a shot.

First off, let's go through an example to get the point across. Bankers in Country X are willing to lend money at a certain rate of return, say 10%. Now suppose everyone expects inflation in Country X is going to be 3% - then the bankers will demand an interest rate of 13% so they can get their "real" 10%.

Grand. Now realise that inflation goes the opposite way to inflation. The ECB don't want high inflation so to combat that, they'll raise interest rates.

So if the Country X's interest rate is 14% instead of 13%, people think inflation will be 4% instead of 3%. All other things equal*, you'd expect that to be caused by lower interest rates.

The 3-year UK bond yield is 108.8, but 105.8 for Germany. That suggests that people expect UK inflation to be higher than Germany's over the next three years.** If that's going to be the case, that's probably because interest rates will be lower in the UK. So just going by this little bit of evidence, it seems that people are expecting the ECB will be tougher on interest rates than the Bank of England. Your interpretation of that is as good as mine tbh.

That is pretty much spot on - although I am also no expert in this. When looking at a yield curve, the slope is key as an upward sloping yield curve signals a strong outlook and a downward sloping signals expected recession.

Risk is also a factor - if there is high risk, you expect a higher a return (and this is not linear, as risk increases over certain points there are jumps in expected return). So a sharply upward sloping curve signals that the market expects positive growth but that is not that certain and the bond issuers are paying a premium for this.

I guess ideally you'd like to see a curve that is not too far off the positive side of flat - which indicates expected stable growth.

But, as Time Magazine stated (that sounds so wrong), this is based on the current expectation and unfortunately we are at a stage where structural breaks appear to be present, so any long term forecast should be taken with a grain of salt.