In the next year, mortgage borrowers could see R15-billion disappear into the black hole of interest payments.
While headlines have been focused on market movements, it is really the interest-rate hikes that have a far bigger effect on the financial well-being of South Africans, especially if we see further rate hikes as suggested after last week’s dismal inflation numbers.
Considering that mortgages held by individuals make up R521,9-billion, in the next year individuals will be paying an additional R15-billion in interest than they did little more than a year ago. This does not take into account the additional interest paid since the rate-hike cycle began in June last year.
A person with a monthly after-tax income of R20 000 and a bond of R600 000 will have 8% less disposable income than last year. This is the same as the total losses on the stock market to date but, unlike the market, which will recover ultimately, the additional R1 500 a month (or R18 000 over a year) is money that will not be recovered.
Very few South Africans invest directly in the stock market, with most people’s exposure being through their pension funds. These are long-term investments, which are managed by experts and which can weather the storm of short-term market movements.
Kirshni Totaram, fund manager at Coronation, says its pension funds have been taking defensive positions in anticipation of a market correction and they took protection for their absolute return portfolios.
“To the consumer interest rates have a far more relevant short-term impact. Worrying about your pension fund is not going to help,” says Totaram.
Kevin Lings, economist at Stanlib, says this additional expenditure on interest payments is nearly equal to the annual spend by consumers on household furnishings and appliances. It is more than half of our annual petrol spend and double what we spend on pharmaceutical products. It has pushed our debt servicing levels to their highest in eight years.
“Bad debt is rising and consumers are feeling the pinch,” says Lings.
Apart from real losses in disposable income, indebted South Africans who cannot make their mortgage payments could lose their homes. Though it is too early still to feel the real effect of the latest rate hike on mortgage defaults, in the United States 900 000 people in the subprime market have lost their homes already.
While our interest rate hike is unlikely to cause as widespread pain, losing your house is far worse than any possible market correction. As the Reserve Bank is hoping, this could be the wake-up call for over-indebted South Africans to realise the immense risk of being in debt and that savings, even if volatile, place them in a far better situation.
Ride the storm
If you are in the right product according to your risk profile, don’t go changing just because of short-term market volatility, says Kirshni Totaram, fund manager at Coronation.
Understanding your risk profile is not as simple as sticking your money in cash and sleeping better at night, as tempting as it may be in current market conditions.
Totaram says risk is not being able to meet your liabilities as they arise. Putting all your retirement money in cash and then not having enough to retire is as much a risk as investing all your money in a penny stock.
The problem is that as individuals we tend to be poor at asset allocation. We are either too conservative and put all our money in low return funds, or too greedy and chase last year’s big returns.
Totaram advises that individuals spend time understanding their risk profile and long-term investment needs and invest in an appropriate asset allocation fund. Investors who have done this have nothing to fear from short term volatility. If you are in the wrong investment, sit down right now with your adviser and develop a better investment strategy.
Time to tighten
When the interest-rate tightening cycle began in June last year, economists predicted a total 200 basis points. We are up to 300 basis points with threats of more to follow. Reducing your debt is now a priority:
Start with your short-term debt. Make use of your 13th cheque to reduce debt.
Pay a bit extra into your bond each month. Just an extra R100 a month on a bond of R500 000 will save you R46 000 in interest payments.
Take this time to shop around for better mortgage rates especially if your salary has increased or your property has increased in value. Cutting 50 basis points off your current bond rate will give you breathing space should there be another rate hike.
At some point the cycle will turn and interest rates will start to come down. Maintain your current payments and you will not only reduce the period of your bond repayments but be able to weather future interest-rate storms.