Fix your mortgage at the cheapest rate in 7 years

Britain's favourite mortgage, the two-year fixed rate, just got cheaper...

For many years, particularly during the boom years, the favourite mortgage of British homebuyers was the two-year fixed rate mortgage.

The logic behind it was fairly simple – you have the security of knowing what you will be paying each month that comes from any fixed rate deal, but you are not tied into the mortgage for so long that you cannot take advantage of interest rate moves.

The theory goes that once the initial period finishes you can then remortgage to a (hopefully) cheaper deal.

OK, so you might have to pay out a bit more in product fees, but generally those costs would be offset by the savings from the mortgages themselves, as typically shorter fixed rate mortgages were significantly cheaper than those mortgages that would fix your mortgage payments for five years, or even longer.

What’s more, with house prices on the rise, the equity stake that the homeowners had when they went to remortgage was even larger, giving them access to even cheaper mortgages.

It is easy to see why they were so popular.

Plummeting Base Rate

However, once Bank Base Rate started falling, many borrowers looked instead to variable mortgages, in order to take advantage.

What’s more lenders – at least those looking to actually lend – launched mortgage deals with jaw-droppingly low initial rates, perhaps most notably with HSBC launching a tracker deal with an initial interest rate of just 1.99%. A few lenders followed suit, to the point that there are now a number of variable deals with an initial interest rate below 2%.

By comparison, fixed rate deals looked far more expensive, as borrowers faced shelling out a sizeable premium for the sake of repayment certainty. Unsurprisingly, the popularity of fixed rates fell as a result.

Fixed deals becoming more popular

However, that situation may now be changing again.

Firstly, there is increased demand for fixed rate deals from borrowers. For example, broker John Charcol, which publishes a monthly mortgage index on the behaviour of its borrowers, confirmed that May saw 26% take out a fixed rate deal in May, the highest level since October 2009.

This demand is increasing for a few reasons.

Firstly, there is an acceptance that interest rates can only go one way – up – and that it is simply a matter of time before they do so. As a result, now is a pretty good time to fix your mortgage repayments, as fixed rates are only likely to get more expensive in the coming months.

Competitive fixed rates

However, another reason borrowers are turning to fixed rate deals is that the rates on offer have been plummeting.

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According to financial information site Moneyfacts, average fixed rates have fallen across the board. The average five-year fixed rate now stands at 5.61%, the lowest level in a year, while three-year fixed mortgages now carry an average interest rate of 4.16%, the lowest since last May.

However, the most significant fall has been in two-year deals, which are now at a seven-year low (an average rate of 4.52%).

One lender that has been particularly keen to up its mortgage lending this year is Yorkshire Building Society, and the mutual has often led the way in launching market-leading products.

This has continued with the launch of a new two-year fixed rate mortgage at 2.79% for those borrowers with a 25% deposit – another table-topping deal. However, you will have to fork out for the mortgage, as it carries a pretty stiff product fee of £1,495, though Yorkshire also offers an alternative at 2.89% and with a product fee of £995.

Yorkshire has also launched table-topping deals at 85% loan-to-value – 4.15% with a product  fee of £1,495, or 4.25% with a fee of £995.

Such attractive deals have played a real part in turning increasing numbers of borrowers away from the attractiveness of trackers which may expose borrowers to payment shocks in the coming months, and back towards the certainty offered by fixed rate deals.

Short-term vs long-term deals

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I have long been an advocate of longer-term fixed rate deals, particularly in the current climate.

The two-year deals may be cheaper than five-year fixed rate deals at the moment, but in two years when you need to remortgage, chances are you will be facing something of a payment shock with interest rates at a higher level.

Remember that remortgaging to a new deal can be expensive, as you may incur legal, valuation and booking fees, as well as exit fees on your current mortgage and a product fee.

So, coupled with the cost of remortgaging, the money saved initially with a two-year deal may soon be eroded. Indeed, it may actually end up costing you more.

My own view is that with interest rates at such record lows, the most sensible move is to fix for the long term, perhaps for as long as a whole decade.

However, there will always be those that prefer to shop around and enjoy the option of moving their mortgage every couple of years. And for those borrowers it can only be a good thing that lenders are not only offering a wide choice of products, but are offering them at very competitive rates.

Finally, remember that at lovemoney.com, you can research all the best deals yourself using our online mortgage service, or speak directly to a whole-of-market, fee-free lovemoney.com broker. Call 0800 804 4045 or email mortgages@lovemoney.com for more help.

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