In the future will all mortgage rates be negative?

by Shaun Richards

Today I thought that I would look at some real world implications of the surge in bond markets which has led to lower and in more than a few cases ( Germany and Switzerland especially) negative bond yields. The first is that government’s can borrow very cheaply and in the case of the two countries I have mention are in fact being paid to borrow at any maturity you care to choose. This gets little publicity because government’s prefer to take the credit themselves. My country the UK is an extreme case of this as the various “think tanks” do all sorts of analysis of spending plans whilst completely ignoring this basic fact as if a media D-Notice has been issued. I would say that “think tank” is an oxymoron except in this instance I think you can take out the oxy bit.

Negative Mortgage Rates

Denmark

Back on the 29th of May we were already on the case.

Interest rates on Danish mortgage loans have fallen since 2008. From an average interest rate including administration fee of close to 6 per cent in 2008 to under 2.2 per cent in August 2018. This is the lowest level since the beginning of the statistics in 2003.

Back then we also observed this.

For one-year adjustable-rate mortgage bonds, Nykredit’s refinancing auctions resulted in a negative rate of 0.23%. The three-year rate was minus 0.28%, while the five-year rate was minus 0.04%.

As you can see at the wholesale or institutional level interest-rates had gone negative and the central bank the Nationalbanken had seen reductions in the fees added to these as well.

That was then but let us pick up the pace and move forwards to the 2nd of this month. Here is The Local in Denmark.

Mortgage provider Realkredit Danmark will next week start offering Denmark’s cheapest ever 30-year mortgage, with an interest rate of just 0.5 percent per year. The fixed-rate 30-year loan is the lowest interest mortgage ever seen in Denmark, and is likely to be matched by Realkredit competitor Nordea Kredit.

That implied negative mortgage rates at shorter maturities although we already knew that but this week things have taken a further step forwards or perhaps I should write backwards. From Bloomberg.

In the world’s biggest covered-bond market, a Danish bank says it’s now ready to sell 10-year mortgage-backed notes at a negative coupon for the first time.

It’s the latest record to be set in a world that’s being dragged down by ever lower interest rates. In Denmark, where Jyske Bank will offer 10-year mortgage bonds at a fixed rate of minus 0.5 per cent, average Danes will borrow at rates far lower than those at which the US government can sell its debt.

Since then things have taken a further step as Nordea has started offering some mortgage bonds for twenty years at 0%, So we have nice even 0.5% changes every ten years.

If we look at Finance Denmark it tells us that variable rate mortgage bonds are at -0.67% in Danish Kroner and -0.83% in Euro in the 31st week of this year with a noticeable 0.2% drop in Euro rates.

This is impacting on business as we see that the latest three months have seen over 30,000 mortgages a month taken out peaking at 39,668 in June. This compares to 16/17k over the same 3 months last year so quite a surge. If we switch to lending volumes then the Danish mortgage banks lent more than double ( 212 billion Kroner) in the second quarter of this year.

Also as the Copenhagen Post points out whilst it may seem that negative mortgages are easy to get banks will behave like banks.

Banks are set to make money from the mortgage loan restructuring.

“We are in the process of a huge conversion wave, and the banks are of course also very interested in talking about that. Because they make good money every time a new loan is taken up,” explained Morten Bruun Pedersen, a senior economist at the Consumer Council, to TV2.

These days banks make money from fees and charges as there is no net interest income and on that subject we have a curiousity. On the one hand Danes are behaving rationally by switching to cheaper mortgages on the other the data from the Nationalbanken is from earlier this year but they have around 900 billion Kroner on deposit at 0% which is less rational and will have central banking Ivory Towers blowing out plenty of steam.

So whilst there are some negative mortgage rates the fees added are doing their best to get them into positive territory. The Nationalbanken highlights this here.

In 2018, Danish households paid an average interest rate of 1.20 per cent on their mortgage debt along with 0.96 per cent in administration fees.

I guess someone has to pay the banks money laundering fines

Just for research purposes I looked at borrowing 2 million Kroner on the Danske bank website and after 30 years I would have repaid 2.2 million so not much extra but it was positive.

Portugal

It has not been reported on much but there was an outbreak of negative mortgage rates in Portugal as this from Portugal on the move highlights.

The new law forces banks to reflect Euribor negative interest in home loan contracts. It was supported by all political parties in the country except the centre-right PSD which abstained.

The bill, which the banks and the Bank of Portugal tried to block, applies to all mortgages index-linked to Euribor rates.

Above all the law will benefit those with Euribor mortgages with very low spreads (commercial margins of banks), at around 0.30%.

The law allows for Euribor rates, currently in the negative across all terms, should be reflected in contracts, even after the cancelled spread, which implies a capital payout.

Typical that the banks would try to evade their obligations and notable that the Bank of Portugal could not look beyond “The Precious”

UK

When the credit crunch hit the UK saw a brief burst of negative mortgage rates. This was caused by the market being very competitive and mortgages being offered below Bank Rate and so much so that when it plunged to 0.5% some went negative. The most famous was Cheltenham and Gloucester and I forget now if it went to -0.02% or -0.04%.

This had wider consequences than you might think as banking systems were unable to cope and repaid capital rather than recording a negative monthly repayment. That was echoed more recently in the saga in Portugal above. A consequence of this was that the Bank of England went white faced with terror muttering “The Precious! The Precious!” and did not cut below an interest-rate of 0.5%. This was the rationale behind Governor Carney;s later statements that the “lower bound” was 0.5% in the UK.

If you are wondering how he later cut to 0.25% please do not forget that the banks received an around £126 billion sweetener called the Term Funding Scheme.

Comment

So we have seen that there are negative mortgage rates to be found and that we can as a strategy expect more of them. After all it was only yesterday we saw 3 central banks cut interest-rates and I expect plenty of others to follow. A reduction in the ECB Deposit Rate (-0.4%) will put pressure on the Danish CD rate ( -0.65%) and the band will strike up again.

In terms of tactics though maybe things will ebb away for a bit as this from Pimco highlights.

It is no longer absurd to think that the nominal yield on U.S. Treasury securities could go negative……..What was once viewed as a short-term aberration – that creditors are paying debtors for taking their money – has already become commonplace in developed markets outside of the U.S. Whenever the world economy next goes into hibernation, U.S. Treasuries – which many investors view as the ultimate “safe haven” apart from gold – may be no exception to the negative yield phenomenon. And if trade tensions keep escalating, bond markets may move in that direction faster than many investors think.

The first thought is, what took you so long? After all we have been there for years now. But you see Pimco has developed quite a track record. It described UK Gilts as being “on a bed of nitro-glycerine” which was followed by one of the strongest bull markets in history. Also what happened to US bond yields surging to 4%?

Maybe they are operating the “Muppet” strategy so beloved of Goldman Sachs which is to say such things so they can trade in the opposite direction with those who listen.

As to the question posed in my headline it is indeed one version of our future and the one we are currently on course for.

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