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Making the most of falling interest rates

Financial Planning  |  10/07/2019  |   5 min read

The Reserve Bank’s decision to cut official interest rates is good news for anyone with a mortgage or hoping to buy their first home, but presents a challenge for savers. Whatever your personal situation, the question now is how to make the most of falling rates.  
 
On July 2, the Reserve Bank cut the official cash rate for the second month in a row by 25 basis points. This second rate cut saw rates falling from 1.25% to 1%, the lowest on record. Many economists predict further cuts, with some suggesting rates could fall to as little as 0.5%.  
 
Just how low rates go will depend on the broader economy. Growth in the three months to March was up just 0.4%, or 1.8% over the year. The Reserve Bank is also concerned about sluggish wage growth, unemployment stuck at around 5% and an inflation rate of 1.3%, which is well below its target 2-3%. 
 
But rather than wait to see how low rates will go, there are things you can do to take advantage of lower rates or minimise their impact, depending on your personal circumstances.  
 
Grab a better home loan deal 

Many banks cut home loan interest rates in the days following the Reserve Bank’s move, although not all of them passed on the full amount.  
 
The average standard variable rate offered by the big four banks is now between 4.92 and 4.98%, saving the majority of variable rate homeowners over $100 a month.  
 

Investment Interest rate / Yield %
Home loans standard variable (discounted)  4.92 - 4.98 
Home loans 3-year fixed  3.69 - 3.89 
Credit cards (low rate)  19.77 (13.03) 

Source: Canstar 3 July 2019, *RBA industry average, May 2019 


The big four also cut their discount rates, while some smaller lenders are offering rates as low as 2.89%. The lowest 1-year fixed rate is below 3%.  
 
Sluggish house prices and falling interest rates mean the the stars could finally be aligning for Australians wanting to buy their first home.  
 
Plans by the Australian Regulation Prudential Authority (APRA) to relax borrowing requirements is also good news for those hoping to  enter the market. Banks are currently required to use a 7% interest rate when assessing a borrowers capacity to repay a loan. Removing this hurdle could see more first home buyers qualify for a loan, or potentially secure a bigger loan than they would otherwise have been able to afford.  
 
The Morrison government is also looking at low deposit financing for eligible first home buyers. This may help people purchase a home with only 5% deposit saved. 

 
For people with existing home loans, it’s time to check whether you are getting a good deal from your lender. If not, ring them to negotiate a lower rate and be prepared to shop around if they won’t budge.  
 
If you do secure a rate cut, consider making the same monthly loan repayments to repay your mortgage faster. Or you could use the cash you free up to pay down debts with higher interest charges, such as credit cards.  
 
The outlook for savers 

Lower interest rates can be more challenging for savers. That includes anyone with a savings account as well as retirees who depend on the income from term deposits to help with living expenses.  
 
Term deposit rates were already on the way down before the Reserve Bank’s rate cut and are likely to head south of 2%. The best interest rate for $10,000 invested in a 1-year term deposit is currently around 2.5%.  
 
Banks have also been cutting base and/or bonus rates on their online savings accounts. The best rates are generally on accounts with an ongoing bonus rate of interest if the account is linked to an everyday transaction account.  
 
The best online rates on offer are currently around 2.75% for the first four months, before dropping to a base rate around half that, so shop around and read the terms and conditions. To earn a bonus rate of interest, some require a minimum monthly deposit, others no withdrawals.  
 
The hunt for yield 

Investors looking for income are not restricted to bank deposits. If you have a longer time horizon, growth assets such as shares and property can provide regular income. That includes pre-retirees and recent retirees who need their money to last for upwards of 20 years or more.  
 
If you can ride out the short-term fluctuations in share and property prices, the income they provide in the form of dividends (shares) and rent (property) tend to be more stable and reliable.  
 
The national average rental yield on Australian residential property is sitting at around 4.1%. Coincidentally, Australian shares currently provide an average dividend yield of 4% (7% after franking) but many quality companies pay more.  
 
For example, shares in the big four banks currently offer dividend yields of between 5.2 and 6.8%. After franking credits are included, the yields grow to 7.5 and 9.7% respectively. As you can see, in a low rate environment it can pay more to invest in the banks than to deposit your savings with them.  Please note this is not a recommendation. 
 

Investment Interest rate/yield % 
Cash rate  1.0
10-year government bonds 

1.32

Term deposits $10,000 1-year  2.5
Online bonus savings account $10,000  2.75
ASX200 dividend yield  4.0
ASX200 dividend yield incl. franking credits  5.7

Sources: Trading economics, Canstar, AFR as at 4 July 2019 

 

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