ESRI "People who don't have cancer more vulnerable than those who have cancer already"

Brendan Burgess

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Don't worry, I am not discussing health issues.

It's the latest nonsense from the ESRI. New research

They have said that borrowers on tracker mortgages are "more at risk from interest rate rises"!

I haven't read the full report yet, but this is the "tracker time-bomb" that David McWilliams used to talk about.

What are they saying? That people who are paying 4.5% SVR are not at risk?

Brendan
 
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Bronte

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I read an article in the Indo today and it was on Newstalk earlier. It was a load of nonsense actually. Which is precisely your view. Even the article mentioned that the ECB are not going to raise interest rates for another year or two. Surely people on trackers are well into their mortgages by now and a rate hike won't kill them was my thoughts, especially since most of them are paying so little interest. I wondered why anybody was trying to scare people if they think the ECB are not going to raise rates.

The article also mentioned first time buyers were at risk. Which I though has to be nonsense as weren't all buyers in the last few years stress tested a couple of interest rate points?

Also agree that someone on 4.5 SVR is going to have a lot harder if rates rise because they are presumably already stretched.
 

RedOnion

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I tried to read it earlier and couldn't make sense of any of it.

In summary, those on variable rates with a high mortgage balance will suffer most from a rate increase.

Saved everyone reading a 26 page report.
 

Brendan Burgess

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I am reading the report now. It really is shocking.

"37% of outstanding mortgages have SVR mortgages, 37% have tracker rates, 26% have fixed rates ...
leaving approximately 74 per cent, or three-quarters of the balance of loans, at risk of ECB rate increases"

But it has already provided the following data:

upload_2019-3-12_9-1-26.png
.
These 26% are paying a much higher rate than those on trackers.

And when their fixed rate term expires, they will be "at risk".

Someone who has fixed for 3-5 years has an average fixed term of 4 years. And as many of them are close to the end of their 5 year term, the average remaining term is probably 2 years.

Brendan

Update: They later do point out
" Indeed, the short-term nature of the fixed rate loans in the Irish market is also a cause for structural concern as, compared to markets such as the US or Denmark where mortgage fixation periods often last 30 years, all the fixed rate products in Ireland are short-term in duration."
 

Brendan Burgess

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For the Irish mortgage market, borrowers holding tracker rate contracts are a
substantial source of vulnerability. These loans were originated at the height of
the credit boom and the underlying loan sizes are larger than for other contracts.
Kelly et al. (2015) show that, while tracker loans are larger, their median
repayments have been lower than other contract types as they have benefited
considerably from the low interest rate environment and the contractual margin
between the policy rate and their mortgage rate. Byrne et al. (2017) further
document that tracker borrowers have experienced much lower default rates as a
result of the lower ECB policy rate. Naturally, as tracker borrowers have benefited
from a fall in the policy rate, these loans will be immediately impacted when the
policy rate begins to move.


The authors don't seem to understand the annuity basis of mortgages.

A borrower who took out a 30 year tracker mortgage 16 years ago has reduced the capital outstanding by 50%.

Not only that, but as they have had much lower mortgage repayments, as a group, they have built up much higher savings than the group who had non-tracker mortgages.

Anyone who loses their job is at risk of mortgage default whether they have a cheap tracker or an expensive non-tracker mortgage.

I would be very surprised if many people who have tracker mortgages who are working will be severely affected by ECB rate rises.

Brendan
 

Brendan Burgess

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An interesting graph but I am obviously reading it wrong.

upload_2019-3-12_9-17-21.png


What is the ECB MRO rate? Is that the same as the ECB rate?

This suggests that prior to March 2006, the Irish banks were handing out mortages at ECB - 1% ?

Obviously, I am reading this incorrectly?
 

Bronte

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A borrower who took out a 30 year tracker mortgage 16 years ago has reduced the capital outstanding by 50%.
Not only that, we know the last trackers were given out a very long time ago. So the vast majority of them are at least a decade paid off. Plus rising wages, plus inflation means they owe less. Generally people advance in their careers etc. One top of that most people make improvements to their properties which makes property more valuable.

Don't the ESRI have a figure for total trackers and a total for how many years are paid off etc.
 

Brendan Burgess

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Hi Red

Are you sure?

I think that thousands of Irish customers were getting trackers at ECB - 1% and not telling the rest of us about it.

Brendan
 

Brendan Burgess

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I am reading the bit about how an increase in ECB rates will cause an increase in defaults.

My understanding is that most defaults occur in the first few years of a mortgage being issued. Default after 15 years is very rare.

More or less for the same reasons that Bronte has outlined above. "Plus rising wages, plus inflation means they owe less. Generally people advance in their careers etc. One top of that most people make improvements to their properties which makes property more valuable."

But does anyone have hard data on this?

Brendan
 

Brendan Burgess

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They are not even predicting rate increases of more than 1% in any calendar year! So the average tracker holder will be paying, horror or horrors, a mortgage rate of 2% by the end of 2020 in a worst case scenario.

Given the uncertainty over the likely magnitude of future policy rate rises, we
examine the impact of a range of interest rate shocks from a small 25 to a larger
100 basis point rise. In a speech to the ECB Forum on Central Banking in June
2018, Mario Draghi stated that the ECB ‘will remain patient in determining the
timing of the first rate rise and will take a gradual approach to adjusting policy
thereafter’. We therefore begin with a 25 basis point shock. As our model is
annual and looks at the one-year impacts of an interest rate rise, it is plausible
that we could see a number of smaller quarterly rises totalling a larger annual
increase such as 50 or 100 basis points. At the more severe end of the scale, the
2018 EBA banking stress test adverse scenario for the Irish long-term rate has an
increase of 150 basis points; while McCann (2017) implements a 200 basis point
shock on tracker loans in work using loan-level data. From the perspective of our
static one-year model, we feel that increases of these magnitudes are not
realistic within a calendar year and instead undertake three shocks 25, 50 and
100 basis points.


The average new mortgage back in 2005 was about €200k if I recall correctly. So that is down to €100k now. So an increase in interest would increase the interest bill by less than €100 a month.

Brendan
 
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Brendan Burgess

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This non-linearity is clearer in relation to tracker borrowers as illustrated in Figure 7 as these mortgage holders are more exposed
to interest rate rises (through a greater pass-through of monetary policy).


upload_2019-3-12_9-56-47.png


I think what this is saying is:

People on tracker mortgages will see a small rise in their income along with the general improvement in the economy.

But their monthly repayments will rise by 25% which is a greater percentage rise than that faced by non-tracker borrowers.

Brendan
 

Brendan Burgess

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This gets worse and worse.

Someone who has been struggling with a very high non-tracker mortgage could easily get pushed into arrears by an increase in mortgage rates.

But someone who has been on a cheap tracker for 15 years will actually have a lower absolute increase in their repayment, but will face a higher relative increase. But so what?

Brendan
 

Brendan Burgess

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The research works on a ceteris paribus basis
holding all other factors constant. Households could, as an alternative, approach
the bank for a temporary restructure to avoid a technical default and we do not
take this into account. The household may also be able to delve into savings or
other wealth to avoid payment and we cannot model this.
 

Brendan Burgess

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And their conclusion

Therefore until such time as tracker rates move towards fixed rates, fixation would not be optimal for these
borrowers.

For such households, if they have spare financial resources, steps to redeem part of the balance through increased payments would help to reduce indebtedness. However, this will not be possible for households without sufficient resources.

We are spending taxpayers' money on producing this stuff.
 

NoRegretsCoyote

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It's a theoretical point.

Assume that a 100bp increase in ECB rates leads to a 100bp increase in both SVRs and trackers.

Compare a tracker and an SVR at €1000 a month with 15 years remaining. (Principal will obviously differ)

Tracker: Moving from 1.0% to 2.0% increases your monthly payments by €75
SVR: Moving from 3.5% to 4.5% increases your monthly payment by €70

So in theory someone on a tracker will be hurt more by a rise in interest rates, because if mortgage payments are equal, someone with a tracker is paying a higher share of interest.



This (theoretically accurate) point ignores the fact that:
  • The differential impacts between SVRs and trackers are very small
  • The demographic profiles of people with trackers and SVRs are quite different
 

Brendan Burgess

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Goggin et al. (2012) found that the pass-through parameter to the standard variable rate in the period before the financial crisis was 0.6 per cent for every 1 per cent change in the policy rate. If this relationship was to continue, then any increase in the policy rate would represent a considerable rate increase for variable rate contracts.

Which I think means : Before the financial crisis in a highly competitive market, when the ECB rate rose by 1%, the banks increased mortgage rates by 0.6%.

But since the financial crisis, ECB rates fell but the banks increased their non-tracker mortgage rates.

You can be quite sure that if ECB rates rise by 2% non-tracker mortgage holders will face increases of at least 2%.

If a foreign lender enters the Irish market, then non-tracker rates will fall, independently of what happens ECB rates.
 

Brendan Burgess

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A 50 basis point rise leads to a 0.4 percentage point increase in the flows of new arrears for borrowers with tracker mortgages, compared to a 0.2 percentage point increase for those households with SVRs.

I don't know what the flow of new arrears is now for tracker mortgages. Let's say it's 1%. I very much doubt that an increase in the ECB rate of 0.5% would lead to it rising to 1.4%.

Those on tracker mortgages can comfortably handle an increase in the ECB rate.

Brendan
 
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