The three-month Libor rate stubbornly remains around 86 basis points above the Bank of England base rate. The problem, of course, is that instead of having some competitive rates v Bank of England base rate, the variable tracker rates reflect more the real cost of funding.
Of course, I am not suggesting it is intentional, rather that a change to this system needs some consideration.
Nor would I suggest that everything is perfect about Libor in this current difficult period but if you accept that Libor rates will eventually stop defying gravity, the cost of lenders’ funding will reduce but the borrowers will not feel any benefit.
Recently, the British Bankers’ Association reviewed the performance of Libor fixings because of some distortions but it now seems to feel confident the system works well.
The fixings in all the different periods and currencies are collected from the selected banks in the fixings. The BBA ignores the four highest and lowest quotes and then averages out the rest to arrive at the daily fix for each of the 15 different periods from overnight to one year. Libor is used to calculate rates on at least the equivalent of $350tn of derivatives and corporate bonds as well as six million US mortgages. Financial products worth about $150tn are indexed to Libor.
In the UK, Libor funding has traditionally been the model for the more adverse mortgage products (may they rest in peace). But I cannot see any reason why Libor should not be considered for mainstream products.
Libor does more reflect the true cost of lenders’ funding and moves in line with the market. If Libor retreats from its current levels, not only will lenders’ costs depreciate, so will a borrower’s mortgage payments.
It may not have escaped other adviser’s attention how a few five-year trackers are appearing in the market with early repayment charges all the way through and that the term trackers generally have a three-year ERC as well.
Would the lenders have done this because if they did not feel sure that the Libor spread to the BOE base rate will reduce and that the lender will benefit but the borrower will not and that the only way for a borrower to escape is to pay the ERC? I am sure the lenders have managed to have worked that one out.
To conclude, if a fairer system for all is based on Libor and six million US mortgages are arranged that way, is it not good enough for our sterling market?
Danny Lovey is sole trader of The Mortgage Practitioner