I have to admit I was a bit shocked today when someone asked me if they should lock in the interest rate on their mortgage .
Shocked mainly that they hadn’t already done it.
Historically mortgage rates have run in the 6% range, I’m talking 100 year averages here. So I consider it a general rule of thumb, that if mortgage rates are below 6% you are in bonus territory, and should lock in for as long as possible.
We are now just beginning the process of making a transition from a period of falling interest rates into what I think will be a fairly protracted period of gradually rising interest rates.
Now, I am not saying that I see rates rising to the levels we saw in the mid-eighties (god forbid) unless some unforseen financial crisis hits (of course that’ll never happen, right). But it is not unreasonable to expect to see mortgage rates climb into the 6-8% range in the next few years.
It is possible that there will be a political imperative which keeps rates lower than this, but honestly, with the mess the deficit mess the US is in, and the bumpy ride the Euro zone is going through, I can’t see the current low rate environment continuing indefinately.
So what to do?
Generally, in a rising interest rate environment you want to be locking in the low rates as long as you can, for as long as they exist.
In the opposite case, in a falling interest rate environment you want to be in short term, variable rate mortgages so that you can take advantage of savings as they occur.
But both scenarios have end points. This is where you must make a personal judgement call based on your own comfort zone. For myself, I called 5% the bottom, and considered anything offered less than 5% as bonus territory. This is probably true of many of us who struggled with 14 and 16% mortgages years ago.
But when mortgages are rising, when do I want to stop locking in, and go short term in hopes that rates will begin to fall again? This is tougher. What happens if you go variable and the rate shoots up to 16%? What a killer that would be. But do I take the chance on a variable if rates are 12% and I think they will fall?
I can only fall back on historical averages again. Personally I would probably only lock in for a year at a time once rates get higher than 8%. If rates go over 10% I am going to be looking to a variable mortgage, knowing that I am going to have to ride the rollercoaster until the rates fall again.
But you can be sure that once they fall, and eventually they will, I will again lock in for as long as I possibly can. Because I know, that one day interest rates will rise again.
And if you ever needed an argument for paying off your mortgage as quickly as possible – this is it.