Squirrel: Where Are Mortgage Rates Headed?

The Reserve Bank (RBNZ) has kicked things up a notch. On October 9, it delivered a 0.50% reduction to the Official Cash Rate (OCR) – twice what it had forecast back in August – taking it down to 4.75%.

Large parts of the market had been pushing for the move, arguing that with inflation now under control, and the economy in tatters, a slow and steady approach would be tough to justify and would only delay much-needed relief. So, the RBNZ saw that and responded appropriately.

I’ve been saying for a while now that the RBNZ has tightened monetary conditions too hard and too long. All the weak economic data we’ve seen in recent months (including the latest GDP and unemployment figures) is ample proof of that.

Of course, the RBNZ hasn’t said as much, but to me its recent OCR decision feels like an acknowledgement that it may have gone too far.

And so, now, it’s being forced to make some big moves to get us back to a neutral OCR of around 3% as quickly as possible, a level that neither restricts nor stimulates the economy.

The Federal Reserve’s call to slash US rates by 0.50% in September will have made the decision easier. It’s given the RBNZ the green light to proceed with larger rate cuts without tanking the NZ dollar and majorly driving up the cost of imports, which can be problematic for inflation.

What’s the outlook on mortgage rates from here?

Following this week’s announcement, I expect one-year fixed rates to drop below 6% relatively quickly.

With more aggressive rate reductions in the pipeline, it feels increasingly likely that we’ll get another 0.50% cut at our final OCR announcement of the year on November 27. That would mean an OCR of 4.25% going into Christmas.

Now, the one-year swap rate (i.e. the rate at which banks borrow money, which is a big factor in how they set mortgage rates) is sitting at around 4%. But if things play out as expected, we could easily see one-year swap rates down close to 3% by the end of the year, and that would translate into one-year fixed mortgage rates near 5.50%.

What could be interesting, though, are the potential implications for some of those longer-term rates. If we see a series of big OCR cuts over the coming months, that will help drive longer-term swap rates back to more neutral levels faster, starting to make that a competitive space for the banks.

It’s a bold call at the moment, and by no means guaranteed, but I wouldn’t be surprised to see three-year fixed rates below 5.00% either before the end of this year, or sometime early next, which will make that quite an attractive option for borrowers.

Of course, we’ll have to wait and see how things play out over the next few months, but it does feel like that light at the end of the tunnel is getting closer.

A note to borrowers on the future of interest rates

Now that rates are trending down again, I’d caution borrowers to be realistic about their expectations around what a “good” rate looks like in the current market. You don’t want to get caught in the trap of using the insanely low rates we saw during Covid-19 as the benchmark for comparison.

Those were highly unusual times, so it feels pretty unlikely that we’ll see rates that low again any time soon. And considering it’d take something pretty big, scary and unpredictable to get us there, it’s probably not something we should hope for anyway.

The RBNZ has said that, moving forwards, a neutral OCR is 3%. That means that when we start to see rates around 5%, or indeed anything with a four in front of it, that’s going to be a pretty good deal.