Debt is not always a bad thing

  • June 25, 2019

“Debt certainly isn’t always a bad thing. A mortgage can help you afford a home. Student loans can be a necessity in getting a good job. Both are investments worth making, and both come with fairly low interest rates “

Jean Chatzky

Uncertainty in the global economy is leading to talk of further interest rate cuts by Countries central Banks, in attempts to stimulate activity in their economies. The economies of some of this Countries largest trading partners are stagnating, driven by political uncertainty in the case of the United States, or in the case of Australia by slowing economic growth on the back of falling house prices. Approximately 12 months ago economists here were talking of mortgage rates firming and OCR rate rises, instead we have already had one OCR rate drop this year and now the strong possibility of a further drop later in the year, creating a new low, with subdued GDP growth of 0.6% for the quarter increasing the likelihood of this . Whilst those of us who borrowed for our first house in the 70’s & 80’s were servicing mortgages at interest rates in the teens, based on servicing ratio’s of around 30% of your gross income, the current first home buyer is able to borrow money at 3.5%-4.5%, however lender analysis of servicing ability, other spending habits etc. is tougher. It was interesting to note that the Reserve Bank of Australia reduced the interest rate used to calculate serviceability from 7.25% to 2.5% over the rate chosen to service a loan. The NZ Banks still use a servicing rate of between 7.3% & 7.8% for serviceability calculations, which obviously has a real effect on borrowing ability, and is basically double the actual mortgage rates in the market.

Commentary around house prices firming is starting to grow, and in our last newsletter we mentioned a stagnant market for the next 3 years, however the reduction in mortgage rates may shorten this period. There was some interesting commentary out earlier in the month focused on house prices and interest rates over the past 70 years.  In 1978 the National House Price was just under $30,000, and mortgage interest rates averaged 11.66%, with the annual average household income at $8,204 pa. Jump to 1988, a period of high inflationary pressure, and the National House Prices were just under $100,000, mortgage interest rates averaged 15.5%, and the average household income was $34,500 pa. Yet this was the period when the highest percentage of the population owned their own homes, over the past 70 years, at 75.25 %. This is due to the availability of capital.  Fast forward to 2018 and the National House Price averages $ 664,000, mortgage interest rates have dropped to an average 5.85 % and the annual household income is $100,000 pa, whilst home ownership has reduced to just under 65%.

Based on servicing 75% of the average house price, at the annual mortgage rate for the year, the current purchasers are slightly better off than the previous periods, calculated as a percentage of the annual household income for that period. However, if the servicing calculations are done on the basis of, say Bank criteria at 7.5%, current purchasers are a lot worse off.

Low deposit rates, a reasonably stagnant property market and a subdued business environment have seen strong growth in the non-bank financing space, as high net worth parties, who have mostly generated their wealth through property, look to enjoy the returns available in this segment.  As more parties’ flow into this market we are seeing greater competition for transactions, and some deals being concluded which really shouldn’t be.  Some of these funders need to realise that you only make a profit when you are repaid and unless you follow the letter of the law in pursuing repayment, and your terms are deemed to be reasonable, you can suffer large penalties and sanctions from the Financial Markets Authority. The non-bank market still contains its share of unscrupulous operators, and interest rates and financiers’ fees are only part of the equation to be considered by a borrower.

Global Capital has access to an increasing number of specialist bank and non-bank lenders, and as the market changes is well positioned to give you options around your project. So should you or your clients need assistance with a proposal, please do not hesitate to contact us, as advice is free.