AIB’s mortgage move suggests interest rates won’t increase any time soon

It's less than two months since Bank of Ireland chief financial officer Andrew Keating called time on mortgage cuts, suggesting that rates in the Irish market had fallen as low as they would go.

Yet it seems that only the Competition and Consumer Protection Commission was listening to the remarks, after it recently warned the bank against making public statements on potential future price increases.

AIB's new chief executive Colin Hunt may not have gotten the message, as on Tuesday the bank became the latest to swing – if not quite an axe, then maybe a small hammer – to its rates.

The biggest decrease is on the bank’s four- and five-year products, both of which will fall by a not insignificant 45 basis points, saving someone with a €100,000 mortgage about €24 a month in repayments, or almost €300 over the course of a year.

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Permanent TSB's Jeremy Masding, meanwhile, told the Oireachtas finance committee on Tuesday that the bank hopes to "review" pricing for its existing customers this year, having already cut rates earlier this year for new customers opting for three- and five-year fixed rates.

Continued mortgage rate cuts can only be good news for consumers here, who continue to pay over the odds for their loans, compared with their peers across the European Union.

European interest rates have been at zero since March 2016, and French homeowners have been able to lock into rates of less than 2 per cent over 20 years, while German homeowners can get a loan over 10 years for just 1.14 per cent.

Here in Ireland the best rates available have been some way north of this, while the options for longer-term fixed rates have been poor.

All of which makes AIB’s latest move so interesting.

Long-term mortgages have arrived

The bank’s decision to re-launch a 10-year mortgage product follows a move from PTSB last month to introduce a seven-year fixed rate, its first longer-term product since 2011. It’s part of a wider trend to offer Irish borrowers longer-range mortgages.

Popular across the US, as well as continental Europe where 20-year mortgages are available in countries such as France, and the Netherlands, where fixed-rate terms of even 25 years also possible, Irish homeowners have never really grasped the potential offered by long-term rates.

Up until now, Bank of Ireland had been one of just two Irish lenders to offer a 10-year rate – the other being KBC – but AIB has taken the opportunity to both re-introduce the product and under-cut both Bank of Ireland and KBC in the process.

It’s a good move for borrowers and introduces more competition into the marketplace – at least in theory. The new AIB product will allow someone fix their borrowing until 2029 at a rate of 3.3 per cent, or €437.96 a month on a €100,000 mortgage over 30 years. Compare this with the bank’s standard variable rate of 3.15 per cent, and you can see that a homeowner will pay just €8 a month more on the aforementioned 10-year mortgage – without incurring any of the risk that a move in rates presents.

This is a key advantage of longer-term mortgages – you don’t risk getting on the wrong side of rising rates, while they also offer certainty, over a longer period, on what a borrower’s repayment will be each month.

Less flexible

Of course there are also downsides, as you won’t be able to switch without incurring a break fee. And they’re potentially riskier. Who would want to be stuck on a 10-year rate at 3.3 per cent, for example, if interest rates were to plummet to less than 2 per cent?

Consider the example of Bank of Ireland. In 2012, it offered its 10-year product at a rate of 6.19 per cent. While that rate seems exorbitant in today’s environment, at the time it was just 17 per cent higher than the bank’s five-year rate. And to put that in context, AIB’s new 10-year rate is 16 per cent more expensive than its five-year rate.

How did homeowners who locked into the 10-year rate back in 2012 fare? Some seven years into their term, they will have found that they have paid considerably more in interest than they needed to. Over the past year alone, they will have paid €2,282 more on a €100,000 mortgage than someone paying interest at a rate of just 3 per cent.

An expensive decision then.

Direction of rates

And this is the key point to note about long-term fixed rates. While they can look good value when compared with short-term rates, what will really matter is how the rates pan out over the long term.

While it’s impossible to determine this with any certainty, the market does offer some pointers. For example, Alan McQuaid, chief economist with Merrion Private, doesn’t think rates in Europe are going anywhere over the coming years, pointing to the “Japanification” of the European interest rate environment. Japan is now approaching its fourth consecutive decade of low growth, low inflation and low interest rates.

If this was to be the case in Europe, Irish rates could continue to fall – making that 3.3 per cent suddenly look expensive.

Rates could also start to rise, of course. But if AIB expects to make money on its 3.3 per cent rate over the next 10 years, you’ve got to expect it certainly doesn’t think rates are going much higher anytime soon.