The market recently witnessed the death knell of the last tracker available, it was Leeds Building Societies high margin ECB + 2.2% offering. Previous to this we heard announcements from Bank of Scotland, AIB, BOI, ICS, Haven, Ulsterbank, First Active, IIB, PermanentTSB and every other lender that trackers were being withdrawn.
So now we have moved from a market where trackers were a key point of competition and value to one where they don’t even exist. This has had a key effect of removing transparency from rates, for instance, how is a Variable Rate determined? The future landscape of mortgages is likely to be some mish-mash of “fixed-variable-another fixed-fixed again-back to variable” it will be a non-transparent massacre of rates where the concept of ‘customer inertia’ will become only stronger.
If people find themselves in a market where they don’t understand long term value then there can be no responsible long term value decisions made. To put that in perspective: If you are getting a loan and opt for the best variable rate today it may not be the best variable rate in one months time so how do you decide? When banks start charging customers for loans (as some have already started to do for certain alterations) there will actually be a barrier to switching, this could also be in the form of intermediary fees.
However, the stage is now set for a new breed of loans, one which I have spoken about long before the credit crunch began. It is to use tracking (which is transparent) and instead of tracking the ECB -which is a concept for most banks not an actual cost base – they would track the Euribor.
The Euribor is the actual cost of money to a bank, banks borrow short and lend long this means they but 3 month money and lend it out over 25 years, so they have to keep rolling loans again and again and that is why the ‘crunch’ part of the credit crunch was largely expressed in LIBOR and Euribor prices. Banks were borrowing at a Euribor which was the equivalent of ECB+1% and that money had been lend out at ECB+.8% so there is an instant 0.2% loss there before you even take into consideration the cost of putting that loan into the market.
Euribor is the intelligent basis to run loans on, if this had been done from the start banks would be in a much better position than they are now. I am not a proponent of people paying more -because if the Euribor cost goes up the cost of the loan would go up- but I am a fan of transparency, and the situation at present is the worst solution, standard variables which offer neither value nor transparency.
Banks offering trackers based on the ECB was a mistake, lets give an analogy. Imagine you buy bicycles from Germany, you buy them for €100 and then sell them for €120. This works fine and you make good money for a while, then one day customs officers realise you need to pay VAT and now you have all these back order agreements set in stone to sell at €100 but you are now paying €120 so for all new customers you eradicate the old method and start charging a new price which you set yourself. The smarter and more transparent choice would be to say ‘We charge 20% over the cost – whatever that cost may be’.
The method of transparency is still alive in that example as is the profit, you actually can have both, value and transparency are not mutually exclusive, the current market response has not been to embrace that but rather to run for the highest point achievable in Margin-Land in an effort to repair balance sheets.
Customers are feeling the pinch too and for that reason banks have an opportunity to amortize away a cost today rather than carry a real loss into the future, they could pay a person off for getting rid of their tracker or let them off three months payment as if they made the payment, or some other incentive, if it was done in a responsible manner and the client knew what they were opting for they might wish to trade the long term gain of a tracker in for short term gain of hard cash during a recession. Personally I would believe the banks are just hoping people refinance away some day.
One thing we can assume for certain is that the stage is now set for some new kind of loan to enter the market and the one that I would bet on is a Euribor tracker.