Blog post
May 7, 2024

Swap rates: why aren’t Buy-to-Let rates falling consistently yet? 

See our latest Buy-to-Let rates and products here.

By Sophie Mitchell-Charman, Commercial Director

While no-one thought 2024 would be a return to the ‘normal’ of 2021, we might have expected more consistency than we’ve seen so far in the Buy-to-Let market.  

The year started with a bang as lenders reduced rates en masse and welcomed a flood of returning and first-time landlords back into the market. This quickly changed again, however, with rates going up again steadily from February to April.

So why, after so many expectations of a return to normality, does this keep happening? 

As ever over the past two years, the answer lies in the Swap rate market.  

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Recap: What are Swap rates and why do they impact Buy-to-Let rates? 

How Buy-to-Let lenders are funded

Most Buy-to-Let lenders get their funding through facilities with global financial institutions, which range from investment banks to high street banks, and pension funds to credit funds. 

When these facilities are arranged, the financial institution expects a return derived from 2 components, (1) a fixed margin, to compensate them for the risk they’re taking and (2) a risk-free floating rate, such as SONIA, (Sterling Overnight Index Average), which has mostly replaced LIBOR.

Expected Return = Fixed Margin  +  Floating Rate

The Lender will arrive at the price of their mortgage products using both of these components, but since the floating rate can change during the facilities’ life, the pricing of the products will need to be changed in order to protect returns/margin.

Swap rates and SONIA

The SONIA interest rate exists as a benchmark to provide the best indication of an almost risk-free interest rate, similar to that of the Bank of England’s (BoE) Base Rate or GILTs, and forms the variable or floating element of an interest swap rate, an agreement between two parties where one agrees to exchange their variable interest-rate cashflows for fixed ones. 

This SONIA rate is informed by a number of economic and credit factors, but also by the probability that the lending bank will be repaid the next day, therefore it is a rate set on a daily basis. 

Almost all non-bank Buy-to-Let lenders’ are required by their funders to enter into these swaps to lock in a price on the floating rate element for the lender, which is the swap rate at the point the swap is entered into. 

The reason for this is to protect the lender from an unexpected rise in the floating rate element, of the expected return paid to the funder, causing financial difficulties for the lender and ultimately the funder. 

What happens in times of uncertainty

Swap rates take their guide from a number of macroeconomic factors, including but not limited to, inflation and the Bank of England Base Rate. When they move, it creates a risky situation for lenders, here’s an example:

A lender has a 5% product. The expected return to the funder is a fixed margin of 2.5% plus the floating rate of SONIA. At the time the product is released the SONIA rate is 2%. This makes the cost to the lender 4.5% of rate, with 0.5% wiggle room for its costs. If the SONIA goes up to 3%, and drives the swap rates up, this means the lender is making a loss on that product, which it can’t afford to do. 

This is why lenders are often repricing a lot and at short notice, as the volatility in the swap rates informs their products and can push them into a place where they aren’t offering sustainable loans to brokers and their clients.

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Why haven’t things changed yet? 

Swap rates remain volatile because the economic conditions started in 2022 haven’t yet fully recovered. Inflation remains above target and the Bank of England has not reduced its base rate substantially enough. 

Therefore these rates can be subject to quick changes as other factors play out on a day-to-day basis. House price data, income data, unemployment data. Swap rates are a bellwether of overall economic health, and currently they are unsure whether to stick or twist. 

What is the broker response? 

We’ve seen already this year how lenders can pass on rate drops to borrowers, particularly where lenders have the intelligence and technology to act really quickly to allow you and your customers to take advantage of the rates. 

What is likely necessary for the foreseeable is understanding the ‘always on’ environment of 2020, 2021 is gone, and landlords need to wait for the right opportunities when swaps move and rates drop and act quickly to grow portfolios. 

That’s what we saw in January, with landlords and brokers flooding our applications to take advantage of the rate, and that waiting, seeing and moving quickly approach is likely the best for landlords and their brokers. 

Therefore, brokers need to be on top of: 

  • How important swap rates are to their customers’ products
  • What lenders they trust to act quickly when rates are favourable
  • The conditions that could cause a change in the rates. 

Normality hasn’t quite returned, but if brokers are smart and stick close to their landlords and lenders, they can find success for their customers.

See our latest Buy-to-Let rates and products here.