Interest Rate Management for Professional Landlords & Investors. Base rate cap, collar, swap

Professional Landlords & Investors

With Bank Base Rate at its current low you are no doubt tempted to take advantage of the tracker rates around that provide pay rates as low as 3.5%. This might be great news now, but you are of course aware that when interest rates inevitably return to a more ‘normal’ level the margins applied to the current products will result in a much higher rate than. A current tracker rate of 3.5% applies a margin of 3% over Bank Base Rate. If BBR should increase to 5% which is by no means unlikely, the resulting 8% pay rate could certainly impact on the yield of your portfolio to a critical level.

In the current climate with money still coming at a price, the Fixed rate options are by no means attractive and it therefore leaves the decision making of managing your portfolio a tough one at present.

Can’t refinance?

With reduced loan to value (LTV) products across the buy to let market, many investors have no options when it comes to remortgaging at present, as the current loan will exceed the maximum LTV limits on the products available. Short of reducing the loan or taking in some cases a product switch (if the Lender will allow), your portfolio remains in the hands of the prevailing interest rates, and therefore leaves an unwelcome level of uncertainty.

What can be done?

Interest Rate Management Products can alleviate the above issues by allowing you to effect a policy that suits your individual requirements, risk profile and affordability. With a large portfolio and the differing margins and variable rates spread across the products it can sometimes take detailed analysis to calculate at what point interest rates would make sustaining your portfolio critical.

Using the services of our Independent Analyst can assist you make an informed decision of when prevailing interest rates would impact your investment to a critical point. Alternatively, you may already understand the level of increase required in Bank Base Rate that would result in negative cash flow or unsustainable mortgage payments.

Which Product?

Caps, Collars and Swaps may be suited to you, but certainly in the current climate many Professional Landlords and Investors are choosing to effect a stand alone Cap which would limit the mortgage payments below a critical point.

Detailed examples and definitions can be found here

What are the benefits?

Let’s assume an example where a Landlord, Mr XYZ has £5,000,000 on variable rates and a further £5,000,000 on fixed rates. His portfolio yields well, even with average void periods and it is his intention to keep the portfolio for a further 15 years. Mr XYZ has calculated that should interest rates rise by 3% his mortgage payments would be critical compared to the rental income. He does not wish to take new tracker rates due to the current margins over base and the fees involved to remortgage and he does not find the current fixed rates attractive.

In this example a stand alone Base Rate Cap for an initial amount of £5 million protecting against BBR increasing by 3% for a period of 15 years would be requested.

The Landlord can now take advantage of low interest rates, but know that his portfolio is protected should Bank Base Rate rise by 3%. Mr XYZ has no need to refinance his portfolio and spend the associated, Broker, legal, valuation and arrangement fees as he now has a stand alone product that will ‘Cap’ the maximum mortgage payments.

Mr XYZ no longer has issues refinancing high LTV loans or perhaps even that he has recently picked up adverse credit (and he has removed the ongoing costs of refinancing his portfolio) – a stand alone policy does not consider these factors.

The initial analysis will provide event markers that consider when loans ending their fixed periods should be ‘added’ to the policy for further ongoing protection.

Further examples including Swaps and Collars can be found here

What are the costs?

Policies of this type charge an upfront premium. If this premium is initially beyond budget, credit can be applied for to cover the full amount. In deciding what interest rate solution is best for you, detailed analysis of your portfolio would be undertaken by an Independent Analyst chargeable dependent on the complexity.

Please feel free to contact us to discuss your requirements, the costs, or to get a quotation by email

Notes

The following notes are important for those intending to proceed with a transaction.

Any hedging contract that you enter into with a Bank is a separate legal contract from any borrowing it may relate to. In particular, they may be terminated independently of each other and early termination of one does not automatically terminate the other.

The cost to you of the overall hedging structure and any borrowing is the sum of the cost of the borrowing and the net cost to you of the hedging contract, whether this is a swap, cap, collar or any other hedging structure.

If you are hedging an interest rate exposure:

You will be exposed to interest rate risk if there is a mismatch between the start dates or end dates of the underlying debt and any interest rate protection. This mismatch may be caused by circumstances such as a deferred start to the agreed protection or alternatively by delay in drawing down the loan.

You will be exposed to interest rate risk if there is a difference between the value of the debt that is to be protected and the notional principal of your interest rate contract.

If you enter into an over-the-counter derivative transaction and decide to close out the transaction before its scheduled termination date, you may have to pay breakage costs. These will be calculated by reference to prevailing market conditions and include costs incurred by the Bank in terminating any related financial instrument or trading position. Please note that such break costs may be substantial.

Where you enter into a derivative transaction for the purposes of hedging debt and you subsequently wish to repay the debt (whether through a refinancing or otherwise) or discharge all other obligations, you should be aware that it may be necessary to terminate the hedging transaction prior to its scheduled termination date and satisfy any liabilities that you have with the Bank with respect to such transaction (including break costs) before release of any security you have provided with respect to such liabilities.

You are acting for your own account and will make an independent evaluation of the transactions entered into and their associated risks, and you should seek independent financial advice if unclear about any aspect of the transaction or risks associated with it and you place, or will place, no reliance the Bank for advice or recommendations of any sort.

You should request the Banks terms of business.

The contents of this document are indicative and are subject to change without notice and are for information only and do not in anyway provide advice.

Benrandall.co.uk will not act and has not acted as your legal, tax, accounting or investment adviser or owe any fiduciary duties to you in connection with this, or any related transaction and no reliance may be placed on us for advice or recommendations of any sort. We make no representations or warranties with respect to the information, and disclaims all liability for any use you make of the contents of this document. Where the document is connected to OTC financial instruments you should be aware that over-the-counter derivatives (“OTC Derivatives”) can provide significant benefits but may also involve a variety of significant risks. All OTC Derivatives involve risks which include (inter-alia) the risk of adverse or unanticipated market, financial or political developments, risks relating to the counterparty, liquidity risk and other risks of a complex character. In the event that such risks arise, substantial costs and/or losses may be incurred and operational risks may arise in the event that appropriate internal systems and controls are not in place to manage such risks. Therefore you should also determine whether the OTC transaction is appropriate for you given your objectives, experience, financial and operational resources, and other relevant circumstances.

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