There is no doubt that mortgages in Australia are cheaper than they've ever been. Interest rates on home loans have fallen, but have they dropped enough? We decided it was time to have a streetonomic look at mortgage rates to answer this question.

We decided to focus solely on home loans offered by the Big Four Australian Banks, ANZ, CBA, NAB and Westpac. We limited our research to these four banks because together they represent 84% of the Australian mortgage market. We found that:

Since the GFC, banks have passed on 65% of RBA rate cuts to mortgage rates
The margin between bank standard variable rates and the RBA cash rate, has increased 89% in this time
Credit card rates have not changed since the GFC
Bank profit margins on have been declining over this time

How Does the Market Look Now

Mortgage standard variable rates (SVRs) are at an all time low. Most banks offer a discount variable rate on mortgages of anywhere up to 1.00% off the SVR. These discounts have been available for several years, so the rates we pay on home loans have moved in line with changes to the RBA cash rate.

Rates have been falling since the GFC in 2007. World economies have been dropping interest rates in and effort to stimulate economic growth. Lower interest rates encourage us to borrow more and save less. However it only works if the banks pass on the savings to us.

Mortgage rates have fallen, but the same can not be said for credit cards. The rates being charged on Australian credit cards today is not different from the rates that were charged in 2007. The official rate has dropped 4.50% in this time. It is little wonder that Bill Shorten has called for a senate inquiry into credit card rates

Have the 2015 Rate Cuts Been Passed On to Your Mortgage

There have been two cuts of 0.25% each so far in 2015. The official cash rate has dropped from 2.50% to 2.00%. The table below shows how each of the Big Four changed their mortgage standard variable rates:

Home loan standard variable rates and the RBA cash rate in 2015

If you have a mortgage with Westpac or ANZ, you'd be happy that the full rate cuts have been passed on to your home loan. ANZ has even dropped their standard variable rate by slightly more having given a total of 0.52% in cuts on their mortgages. Customers with CBA and NAB might not be as happy, their mortgage rates have only been cut by 0.45%. These banks have cut rates by 45 basis points instead of 50. That means only 90% of the RBA cuts reached home loans held with these two banks.

Have Rate Cuts Since the GFC Been Passed On?

Rates have been dropping since the GFC in 2007. The RBA has been cutting rates since August 2007. We compared how the bank standard variable rates have changed in comparison to the RBA cash rate over this time. Our findings are shown below:

Changes in mortgage standard variable rates and the RBA Cash Rate since the GFC — Changes in mortgage standard variable rates and the RBA Cash Rate since the GFC

The best performer, ANZ, has dropped their SVR by 294 basis points, while the RBA has dropped the cash rate by 450. This means that we have only seen 65.33% of the total rate cuts passed on to our home loans since the GFC.

The Net Interest Margin on Mortgages

We understand that banks have a cost of funds. The cost of funds is made up of interest they pay on savings accounts as well on their own borrowings. The difference between this cost and the amount they charge on loans, is known as their net interest margin. This effectively measures how much profit the bank is making on every dollar they borrow.

To see how much margin banks make on mortgages, we compared their average standard variable rates to the RBA cash rate. This does not take into account all the factors which influence cost of funds and profitability. It only considers on the difference between the cash rate and the SVR, which is what we wanted to look at. Our finding are shown below:

Gap between RBA Cash Rate and Average Mortgage Standard Variable Rate of Big Four — Gap between RBA Cash Rate and Average Mortgage Standard Variable Rate of Big Four

The graph above does not tell the full story. It only looks the difference between mortgage rates and the RBA cash rate. In 2007, the difference between these rates was 1.82%, today the gap is 3.44%. The margin between the standard variable rate and the RBA cash rate has increased by 162 basis points or 89% since the GFC.

Are Bank Profit Margins Really up 89%?

According to the Reserve Bank of Australia, major bank net interest margins have been falling since 2007 as shown in the graph below:

According to the RBA, bank net interest margins have actually been falling since 2007. Yet the margin made on home loans appears to have increased, how is this possible? In our conjecture, we believe some of the reasons are:

Rising Cost of Funds - The GFC caused a major unraveling in world debt markets. Banks no longer had the ability to bundle debt in off balance sheet transactions, access to cheap money has dried up
Bank Credit Ratings - The GFC has caused banks to become more risky. Credit rating agencies changed their scores to reflect this, and this means that banks now have to pay more on their wholesale borrowings
Falling Profits in Commercial Lending - We have heard that margins on commercial lending have been falling, as banks are becoming more competitive with each other in this market.

Our Round Up

The GFC caused a major shake up in global finance and increased the price banks pay for money. Along with this, the market for commercial loans has become more competitive and less profitable. Unfortunately for us, this fall has been offset by an increase in the margins made on consumer lending.

Over the past 8 years, the banks have passed on 65% of rate cuts to home loans and kept 35% of the difference for themselves. Whether the retained amount was due to profiteering or covering costs, we can not say. It has been a gradual process as shown below:

Changes in Bank SVR and RBA Cash rate since 2007

As we can see, the two lines look very similar. Banks normally follow suit and move their SVR after a change in the RBA cash rate. However, they sometimes keep a fraction of the RBA change for themselves. This has been a gradual process over 8 years and has seen the gap increase from 1.82% to 3.44%

There is not much we do about this, other than hope that in the future banks see added value in consumer lending. We could also pray for new legislation to help 'encourage' them to pass on more savings to consumers rather than protect their own profits

As with all streetonomic posts, this information is based on solely on our point of view. We welcome all feedback and suggestions