If you are thinking about making a credit you have probably already faced the dilemma between choosing a rate gets or a variable rate. Maybe you have a variable rate credit and think that it makes sense to switch to fixed rate. In this article, we’ll help you decide to get more comfort and financial security (and now, to save money on credit).
How Interest Rates Work
It is simple to understand the operation of interest rates. In practice, interest rates adapt to the economic reality and can act as stimuli to investment or as promoters of savings. In few words:
In times of economic growth, interest rates tend to rise . At this point there is employment, higher wages and greater economic optimism. Money gets scarcer by what its price goes up. Rising interest rates make savings more profitable (term deposits, for example) and make credit more expensive.
In times of economic crisis we see more unemployment and the reduction of household consumption and investment by companies. At this point, it is essential to encourage consumption and investment, facilitated by lower interest rates (making savings less attractive and investment cheaper).
How to predict the evolution of interest rates?
If we understand the mechanism of operation of interest rates is simple the same can not be said of the evolution of rates. Economic forecasts are never right because they are based on volatile factors. We can estimate trends but predict accurately is a doomed task.
At this point we realize that we will have to take risks or opt for stability (protect us from interest rate fluctuations). And here we have the dilemma between choosing a fixed rate or a variable rate . What to choose?
Variable Rate For Those Who Want To Risk
If it is the people who likes to risk and who does not require stability you can always opt for a variable rate. The variable rate has the advantage of adapting to the economic context, as we have seen above. In times of economic growth will pay more, but also your income should increase as well. On the other hand, when the crisis breaks out (as we have seen in Portugal in recent years), we have seen a significant drop in interest rates and a reduction in loan installments (which frees us up to cover other expenses).
Fixed Rate For Those Who Want Stability
There are people who value greatly the stability and predictability of their expenses. For family budget management it is much easier to always count on the same benefit and not be influenced by the moods of the economy. It remains to be seen at what cost.
Fixed Rate Is Higher Than Variable Rate
To fix an interest rate you will have to pay more in the short term. The expectation is that the interest rate will rise to the point of exceeding the contracted rate. The problem is that long-term interest rates are much higher than short-term rates because the uncertainty is higher. Therefore, the bank will have to demand a higher rate to mitigate this risk.
Imagine hiring a 10-year interest rate that is 2 percentage points higher than the variable rate. You have to wait for market rates to rise well over 2 percentage points and quickly for the transaction to make up for it. Additionally, as debt is higher in the early years (and will fall in the latter), the financial loss is even greater.
What Is The Fixed Rate Term In Housing Credit In Portugal?
From the above, it is clear that to benefit financially from the decision requires a strong rise of interest rates. Unfortunately, banks that make fixed-rate housing credit contracts tend to set rates for reduced terms – typically 5 or 10 years. If your goal is to effectively benefit from this stability, you should look for fixed rate contracts throughout the contract. Then you will be protected.
And Is It Worth The Time To Fix The Interest Rate?
The current situation is different from a normal situation. When analyzing the evolution of the EURIBOR interest rate, we see that it is already at negative values. The economy in general and the financial sector in particular are going through critical times. Economies do not grow and the financial sector is in need of major restructuring (yes, they are not over yet … and unfortunately Portugal has barely begun). Thus, interest rates are likely to remain low for a long time.
Having said that, if we expect rates can not fall much more, we can not say if they will rise rapidly. They are most likely to remain below 1.5% in the coming years (see the rate for 10-year terms). Thus, your decision will have to consider:
- Do I want stability or do I want to take advantage of low benefits?
- Do I have room in the family budget to pay a higher installment? And for how long?
- What is the maximum period my bank provides?
What to Decide? Fixed Rate or Variable Rate?
We are not very fond of fixed rates in housing loans but we admit that for many people this is the right solution. What we always suggest is to simulate your specific case and see what the difference in performance between the two cases would be. It may happen to choose the variable rate and the contracting of a savings product by the differential. Thus, when the rate starts to rise, it may always partially amortize the credit.