Advice and Opinion

Not a good time to fix your bond interest rate


“In times of economic volatility and recession, like the present, we are often asked by bond holders and bond applicants whether they should apply for a fixed rate on their loans”, says Rowan Alexander, director of Alexander Swart Property.

“At the moment,” he says, “many people wonder if fixing their interest rates for the usual prescribed periods of two, five or 12 years might be a wise move, but in my view it would definitely not be advisable.  It is a course that simply cannot be recommended.”

What South African investors and bond holders tend to forget, says Alexander, is that the ups and downs of South Africa’s political life are by no means the only factor determining our economic performance.  Equally, if not more influential, he says, is the fact that we are linked to the international economies and right now the outlook for many of these is not too optimistic.  “When, for example, the International Monetary Fund recently cut its predicted growth rate for the UK, our second largest trading partner, to 1,7% (1,8% annualized) after previously in April predicting a 2% growth, the  rand immediately lost value but ,following the South African Reserve Bank announcement to cut the repo rate, it quickly recovered to become even stronger than before”.

“One has to accept that the road ahead will be tough and difficult in view of the problems faced by so many major economies.  This, and our own political instability, will almost certainly lead to low growth for at least three years, if not longer which, in turn, means that we are now into a long period where people will spend less – as indeed its figures show they are already doing – and this means that the inflation rate is likely to remain low, i.e. at its current 5,6% (or even lower)”.

“If, therefore, the bond holder fixes his interest rate now at, say, 1% or 2% above the recently announced 10,25% prime rate, he is likely to be paying more than he need for a considerable length of time–with very limited prospects of making up his losses by paying lower than the going rate when the prime rate eventually rises  above his current agreed rate.”

This fact, says Alexander, is especially relevant for those in the early stages of paying off their bonds because in these years their interest rate payments far exceed their capital pay- back payments.  On a R 1 million mortgage bond, with a repayment term of 20 years, a home owner will be paying R9,816 per month: in the first year the monthly interest payment would be R8,541, while the capital pay off would be only R1,274.  By the year 12 the pay off on the monthly interest rate would be R5,477 and the capital pay back R4,338.

“The man paying higher on a fixed rate would be penalizing himself, possibly for as long as 12 years,” says Alexander.

“In general,” says Alexander, “wise property investors buy at times of recession and sell in boom times.  Regrettably, however, the majority of investors do it exactly the other way round, buying when prices are high and then, due to economic problems and uncertainty, selling when prices are low – but they should not add to their burdens by paying a high fixed interest rate.”