In the future will all mortgage rates be negative?

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.

 

 

 

33 thoughts on “In the future will all mortgage rates be negative?

  1. “….. the banks received an around £126 billion sweetener called the Term Funding Scheme.”
    Under the TFS banks borrowed (on a secured basis) £126bn of central bank reserves at rates as low as Bank rate (0.25% was indeed the low). The quantity of reserves left on deposit by commercial banks at the BofE, earning Bank rate flat, increased by exactly £126bn.
    How is that ‘a sweetener’?

    • because they borrowed from the BofE at a lower rate that from commercial markets ?

      Net lending of the TFS reached £68bn between September 2016 and December 2017

      it meant they could cut interest on savings too , no need to encourage retail savings , but you know this .

      Forbin

      • The BofE is the monopoly supplier of GBP central bank reserves. Any quantity of central bank reserves that one bank borrows from another bank has to have been supplied by the BofE, normally lent at a rate of the central bank’s choosing. There is nowhere else central bank reserves can come from. The BofE cannot ‘lend below market rates’ since it defines market rates for something only it can supply.

        Unless exchanged for banknotes (which pay no interest and are expensive to store securely), every penny of central bank reserves supplied to one commercial bank that has an account at the central bank, has to remain on deposit at the central bank in an account of one of the other entities that has an account at the central bank. Entities that have accounts at the central bank are limited to commercial banks, foreign central banks, certain central clearers and payments services providers and, of course, the Treasury. The vast majority of central bank reserves supplied by the BofE remain in the accounts of commercial banks. The Treasury, for example, tries to keep no more than £500m on deposit at the BofE at the close of each day. Central bank reserves cannot be lent to, or otherwise transferred to, individuals, households and companies (other than those listed above).

        • Thanks for clearing that up for us Robert. We can all see that you are extremely knowledgeable concerning the operations of the Bank of England, so perhaps you could express an opinion regarding the fall in sterling in the summer of 2008 from $2.22 to 1.35 in an almost vertical straight line downwards, the prevailing conditions seemed not to affect the Euro which also went vertical(to the upside) against sterling peaking at 0.98, to an uneducated observer it would appear that the European economies and banks were somehow immune to the imploding balance sheets of banks across the world at the time????

          I have always been of the opinion that it was an unofficial devaluation – you know – the raise of an eyebrow the scratch of the nose type of signal from a BofE official, I would be interested to know your thoughts.

          • I have no strong opinion as to why one currency and everything denominated in or offered for sale for in that currency should be worth more or less than another currency and everything denominated in, or offered for sale in, that currency.

            You can see one country cutting rates and seeing its currency weaken and another country doing the same and seeing its currency strengthen. You can have one country with a large CA deficit that has a steady decline in its currency and another country with a similar CA deficit seeing its currency strengthen. A fiscal deficit (or surplus) is also no indicator of currency movements.

            I don’t believe, however, that a country that adopts what is essentially a free floating currency can really engineer a devaluation (or appreciation), unless it does something deliberately stupid to make assets denominated in its currency and products offered for sale in its currency less attractive to the outside world.

  2. Eleven years ago the Woolwich was giving “life time mortgages” and 2 of the lowest rates were base plus 0.35% and base plus 0.38% I obtained the latter on a 7 years agreed term.

    They soon scrapped these low rates after the credit crisis.

    However the Ombudsman ruled ” life means life” and the Woolwich had to extend the deals for holders who took them up. I extended mine 4 years ago and hoping to extend again next year.

    However the question was would mortgage rates go negative?

    Well no I don’t think they will as the banks need a good margin they may go lower than some of the average rates but I don’t think they will go significantly lower.

    But all that said what would Barclays do if the base rate went to say -1% would they then give me 0.62% back?

    I hope so but doubt it as their base is technically different than the BOE rate so they don’t need to follow the BOE if they don’t want to.

    But I’m a happy bunny indeed but it was part luck part good forecasting on my part.

    • Forgot to mention the deal I took was a Woolwich base rate tracker at 0.38% above Woolwich base rate which normally moves with the BOE rate.

      So at the moment I am paying 1.12%.

      Cheap as chips but what will happen if the BOE rate goes to -1% will the bank start to pay me?

      • you should check whether your rate is tied to Barclays’ base rate or the BofE Bank Rate. Confusingly, Bank Rate is often incorrectly referred to as ‘base rate’.

        From what I’ve seen, those Woolwich lifetime trackers reference BofE Bank Rate and not any rate set by Barclays.

        A colleague took out a mortgage with one of the building societies in 2007 that had a 2 year introductory rate of Bank Rate less 51bp. Bank Rate hit 50bp during this 2 year period, such that his rate was technically -1bp. Initially the building society tried to argue that the rate had to be floored at zero, even though there was no reference to a floor in the docs. Eventually they agreed to reduce his mortgage balance by an amount equivalent to what they should have been paying him. They said their systems simply couldn’t cope with having to pay the customer interest on a loan.

  3. “Well no I don’t think they will as the banks need a good margin they may go lower than some of the average rates but I don’t think they will go significantly lower.”

    Peter, what if rates go to minus 5%, the banks can borrow at that and lend at a nominal rate of say 0.1/0.2% and put charges and fees on top, a very nice profitable business, this is where I think we are going, and the question is of course, why stop at -5% why not -10/15/20% -who will stop them?

      • The FCA lets them assume growth rates of 2% and 8%, interestingly the FCA assumes inflation at 2.5%(are you listening at the back Carney?) and so the lower figure hardly keeps up with prices. Of course since the GFC inflation has been well above the lower figure and central bank intervention in bond and equity markets has been the only thing ensuring prices of these instruments have gone up,so that upper figure of 8% is only dependent on the continued intervention in markets by central banks.

        What comes next, negative rates, stagflation and central banks buying equities en masse, will ensure the future growth figure lies somewhere between the upper and lower targets but the pension paid will be losing purchasing power at a much faster rate.

        In other words, pensions will be allowed to default but considered worth it to ensure the precious and house prices are protected, expect lots of articles in the media to justify it using divisive arguments such as “the genX’ers have been priced out of the property market by selfish boomers” and “boomers have massive pensions while they are forced to accept gig jobs and unsecure employment coupled with massive student debts”, a justifiable transfer of unearned wealth for Labour to crow over no doubt.

        The articles will write themselves.

    • why can’t banks lend at 6% now and pay 1% on their liabilities now and put charges and fees on top?
      For the same reason Sainsburys can’t buy potatoes at 50p a kilo and sell them at £5 a kilo. They have competition that will undercut that sort of margin.
      Commercial banks are also in competition with each other. Competition will serve to keep a lid on margins. That will be true at whatever rates the central bak both supplies reserves and remunerates reserves.

      • yes they do buy cheap and sell expensive

        or go out of business

        and yes they call their more expensive potatoes – “finest” and charge more

        or organic and charge for some dirt on them …..

        Forbin,

        PS: they would cartel if they could, if we had another source of GBP and that was cheaper then the BofE would cut to match . but money is a different animal

    • So lets see.

      -10% funding, retail at -5% plus fees. Good business model, big bonuses.
      But how do lenders work out affordability for mortgage applicants? The more they borrow, the more they get ‘paid’ to take the mortgage….. Ummm, excellent cashflow. So all property prices increase by factors due to demand but no-one who doesn’t already own can find the 0.0005% deposit, so has to rent.

      Always fun to check the extremes, but it can’t happen as the affordability criteria would have to apply to the lenders not borrowers. And it would make a mockery of the inflation figures, if they were ever included. Luckily that part of the system is tried and tested.

      Look forward to Alice trying this on the Hatter.

      • why do you make the assumption that if the central bank were to set at a negative level both the rate at which it supplied reserves to commercial banks and the rate at which it remunerated those reserves, the commercial banks would be able to dramatically widen the margin between the rates they earn on they interest bearing assets and the rates they pay on their liabilities? What’s the mechanism by which that would happen?

        • Apologies if I made a dogs dinner of attempting to set a scene.

          The point I was trying to make would, I feel, still be valid had I used -10% funding, retail at -8% , in that the great unwashed would, like me, have access to capital at a net negative rate of interest. Any negative rate would suffice and change the mindset.

          The consequence would, I think, be that monthly ‘repayments’ would be negative, encouraging larger loans that had no affordability constraints on the borrower – would you even need to ‘self certify’ (remember those?) and thus turbo-charging asset prices in a way we haven’t yet seen.

          For me, the idea of a capitalist structure falls apart at this point.

          • on the contrary, negative rates are the result of free market capitalism.

            On the one side of the ‘market’ you have those that wish to consume less than they produce now, who will be acquiring financial assets so that they can consume more than they produce at some point in the future. We call these people ‘savers’. In order for savers to save and increase their stock of financial assts, they require others (on the opposite side of the market) to consume more than they produce now and promise to produce more than they consume in the future. We call this group ‘debtors’.

            If the two groups are more or less in equilibrium, then the ‘clearing price’ at which they are transacting is probably about right. If the balance shifts, such that one group now outweighs the other, then, just as in any market, the clearing price will adjust to find a new equilibrium.The clearing price is whatever one group has to pay the other group, in terms of an interest rate.

            But there is no fundamental rule that the clearing price has to be such that those wishing to produce now and consume later have to be paid to do so and those consuming now and producing later should pay for the privilege. If the first group outweighs the second then the price should and will adjust such that those wishing to produce now and consume later will have to pay those that are consuming now and producing later.

            That’s how markets work.

          • There are still affordability checks needed on the borrower even if negative interest rates apply. The borrower will ultimately pay back less than he borrowed but the lender still needs to know the borrower can cover the necessary repayments (either on a monthly basis for a repayment loan or the final capital repayment if an interest only loan).

        • Apologies if I made a dogs dinner of attempting to set a scene.

          The point I was trying to make would, I feel, still be valid had I used -10% funding, retail at -8%, in that the great unwashed would, like me, have access to capital at a net negative rate of interest. Any negative rate would suffice and change the mindset.

          The consequence would, I think, be that monthly ‘repayments’ would be negative, encouraging larger loans that had no affordability constraints on the borrower – would you even need to ‘self certify’ (remember those?) and thus turbo-charging asset prices in a way we haven’t yet seen.

          For me, the idea of a capitalist structure falls apart at this point.

  4. Gre at article as always shaun. The housing market is on a knife edge at the moment. I’m expecting the boe to bail it out again. Lots of wailing by the housing parasites in the rics reports. Where i am in s Manchester the market is quietening down for the summer. 3 bed semis are selling really fast, anything above that is not selling. The gap in the housing ladder is too great, lots of extensions going up as well. Still in sure there are some ‘sophisticated’ investors willing to spend £380k on a 1 bed flat in the town centre. What could possibly go wrong…

    • Hi Anteos and thank you

      Well some of the bailout seems set to come from a lower Bank Rate from the Bank of England. As for other moves well they have shown plenty of “innovation” in the past.

      In London there is some movement too but they built so much in my area for essentially foreign buyers just in time for the law to change unfavourably. The Qatari development the other side of Chelsea Bridge is now coming to the market in tranches. so plenty of buyers will need to be found.

  5. Does anybody really know the quality of the U.S. Fed/treasury
    post 2008 Q.E. (cash for “secure?” bonds) trillion dollar bond portfolio (beyond “fairy dust” marked to market assumptions)? This is what many countries are facing.
    Perhaps an “everyman” example is the rise of Amazon and fall of Sears/Kmart and much of the retail sector. The evaporated capital-(share prices,pension funds,shopping malls, city centres,tax base,goodwill on books(store furnishings/brand value)- is followed by MORE evaporation of capital in it’s unprofitable online replacement (by most concerns). So here we are with negative bonds. Stop saving!! Party like it’s 1999!! Bucket lists everyone!!!

    • the Fed purchased mainly Treasuries and mortgage backed bonds issued by Freddie and Fannie, which are either explicitly guaranteed by the Treasury or have the support of the Treasury, given the issuers are GSEs.

      Treasuries cannot default, unless the US Government chooses to default on them. Even if they did and the holdings of the Fed took a hit, a central bank can continue to operate quite happily whilst being balance sheet insolvent (it can never be cash-flow insolvent). Certainly, it’s never a good look for a country to have an insolvent central bank, but technically it presents no problems. Then again, it’s an even worse look for a country to default on its bonds!

  6. And of course-excelllent article Shaun but needs a preface:

    “WARNING- Disturbing content!!! May cause anxiety attacks/supplemental mental condition/excessive alcohol consumption/grumpy old guy syndrome.

  7. Fed/treasury cleaned up the banks (remember the sweet deal Warren buffet got on convertible bonds because Goldman Sachs -the smartest? most connected guys- were so trapped by this daisy chain of illiquidity). That’s how bad things were. The emergency liquidity scheme was like a “cash for your dirty old polluting clunker” program – even the people running the liquidity schemes admit there was no time to analysis what they were buying. There are hundreds of billions++ of bonds
    that are untradeable-no interest-dubious value-which you find out when you try to sell them (as the fed/treasury did in Q.T.)–(But, but- you sold them to us- don’t you want them back-look at the coupon rate!!) Talk to traders?!? in this “stuff”

    • Could explain why the shares of RBS,BARC and LLOY are still hovering at their GFC lows with all that stinky stuff hidden off balance sheet???

  8. Hi Shaun, I know you’re not a DJ although I think you’d make a good one, any chance of a blog on the next Governor of the BoE? It’s just that Jeremy Warner was saying that Gerard Lyons was the hot favourite which would be an… Err… ‘Interesting’ choice.

    • Hi bill40

      I saw that in the Torygraph, they were also plugging this line.

      “We must close the pessimism gap’. My interview with a hot favourite to be the next Governor of the Bank of England”

      So far we have had Andrew Bailey and now Gerald Lyons as hot favourites. Actually Bloomberg had a third earlier this week which was Sir John Kingman. The fact that I had to look him up says it all really. Also the Torygraph had this

      “Could a dark horse replace Mark Carney at the Bank of England?”

      It would be a lot cheaper as how much hay and sugar cubes can you eat?

      I will note your request and as to being a DJ

  9. All this explains why bankers now have a reputation once reserved specifically for double-glazing and used car salesmen.
    I’m really happy an insolvent central bank isn’t, technically, a problem.

    I remember when BNP Paribas lit the GFC fuse when it reported that it had a technical problem with valuing 3 of its funds – 12 years ago today (NZ time)…. and the rest, as they say, is history.

    • so what do you think are the issues with a central bank having no assets, but issuing currency and central bank reserves? There’s a quite strong belief amongst quite a few people that this is how central banks should create state money.

      The Treasury issues a small amount of state money without explicitly having to hold any assets against it. Both the Treasury and the money it issues seem to work perfectly well.

  10. What do you think the effect on gold will be if Treasuries turn negative – i.e. if the last man standing disappears stage left?

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