SWAP Rates Explained
We think we would all agree that the financial market has been a rollercoaster over the last few years with the unprecedented base rate fluctuations, lenders withdrawing products and the repricing of deals at a moment’s notice. There are obviously a multitude of factors that influence the availability of competitive interest rates for landlords and homeowners alike, but as most will know SWAP rates can be a key driver in the mortgage market.
Therefore understanding how interest SWAP rates work, how they are valued and how they affect mortgage rates can empower you as a professional landlord to make more informed decisions when it comes to choosing your next investment or comparing available deals for your property.
So let’s get into it.
What are SWAP rates?
A SWAP rate is when two financial parties exchange (or swap) interest rates to secure funding for a period of time.
This is done as a financial institution may need to convert their floating-rate exposure into a fixed rate by agreeing a rate swap (or hedge product) with a larger financial provider to create rate certainty for a set timescale, inline with how both organisations predict the market will perform. In turn the SWAP rate will then dictate the interest rates that the financial institution will offer its clients.
For example, a mortgage lender may acquire funding from an external bank for a fixed period of time (this could be a two year fixed, five year fixed or even 10 year fixed swap rate), it will then use the cost of this funding and their prediction for how the market will perform to value or price the mortgage rates that they offer to investors.
How do SWAP rates affect buy to let mortgages?
SWAP rates are derivative contracts between financial institutions and as they are used to calculate fixed-rate financial offerings, an increase or decrease could impact the products and terms that the lender can offer, and therefore affect the mortgage rates that are available when you purchase a new property or remortgage an existing one.
As the SWAP rates are essentially a prediction for how the market will fluctuate over the period of the mortgage, the lender will need to price the mortgage deals that it offers accordingly, in order to not lose out financially in the long term, taking into consideration factors such as market performance predictions as well as the credit charge (or cost) of securing the fixed rate from the investment bank. This is especially true when offering fixed term mortgages to borrowers for products such as 2-year fixed or 5-year fixed rates given the speed of change in the market late.
If the SWAP rates increase, the mortgage lender may increase their own rates to maintain their required profit margin, or if rates fall rapidly they may even pause lending or withdraw products until rates stabilise again.
SWAP rates can also impact more than just the actual interest rates that lenders offer. Given the market volatility over the last couple of years, in order to cushion further rate fluctuations a lender may introduce a slightly larger arrangement fee in order to offset further fluctuations.
This can actually be beneficial for landlords, as by choosing a deal with a higher initial arrangement fee could secure a much more competitive interest rate over the initial period and thus reduce the true cost of the mortgage, as well as protect against further rate increases.
Why are SWAP rates more pertinent for landlords?
Given the specialist nature of the buy to let sector, SWAP rates can have more of an impact on investment mortgages compared to residential as high street banks are more likely to utilise their own funding lines to facilitate their lending. It is typically the more specialist mortgage lenders such as Paragon, Kensington, Interbay that use hybrid funding lines, which will feel more of the impact of SWAP rate changes.
That being said, even if the lender has its own funding facility, a shift in SWAP rates can still impact the interest rates that they offer and here’s why.
A lender is continuously trying to balance supply and demand. At all times it has to ensure that it can support both the borrowing and lending that it offers to its clients. Therefore if competitors withdraw products or increase rates, this could massively increase or decrease the demand for their products, which in turn impacts their service levels. Therefore most lenders will monitor the general market and competition to adjust their own rates accordingly.
What’s happening with SWAP rates right now?
SWAP rates in the UK are ever fluctuating in response to the Bank of England base rate, SONIA rates, inflation and other key financial market markers. That being said, over the last couple of years there has been an increase to general SWAP rate levels in response to the unprecedented inflation hike.
Will they come down again?
That is obviously the golden question, which no-one can know for sure but it is important to remember that SWAP rates are not the only factor to impact mortgage rates, plus nowadays most mortgage lenders use advance market monitoring systems to predict how the markets will perform and cost in any forecast changes ahead of time.
This means that even if there is a change in SWAP rates a lender may not immediately adjust their own rates but they may increase it at a later stage – even if the SWAP rate decreases in order to protect their service levels. In essence this means that delaying decisions could very much impact the cost of your mortgage and it is even more important than ever to get expert mortgage guidance before considering any investment.
As mortgage experts, we monitor the financial markets on a daily basis in order to empower your decision making with the latest updates and market insights. To discover the latest guidance on what’s happening with buy to let SWAP rates and market predictions, you can chat to one of our team by getting in touch today: