Money Minute – May 22 2017 “Interest Only Warning”

Interest-Only Warning

Good morning Lisa, good morning Karl. Good Morning everyone

Listen, the latest scare to be thrown around the market is this…

Interest-only loans could create a US-style subprime lending crisis that cripples banks, borrowers and property prices.

This comes from a Melbourne-based funds manager, JCP Investments, that looks after money for Australia’s future fund.

Now the fund’s manager says only time will tell if such households can afford the mortgages that they have.

Now the background is…as house prices have rocketed on the east coast of Australia, more buyers have sought interest-only loans because the monthly repayments are lower.

That’s because you’re only paying the interest, you’re not paying back the actual loan.

A loan you pay back is called a P&I loan – principal and interest.

So take a $500,000 home loan, over 30 years at four percent….a principal and interest loan will cost you $2387 a month.

By contrast, the same loan interest only will just cost you $1666 a month, so $720 less.

That’s money you can use to feed the family or maintain a lifestyle… but a lot of people have used their ability to pay off a principal and interest loan, converted that to interest- only, and then bought a bigger house.

So a person with a half-million-dollar principal and interest loan, paid $2387 a month –  well if they made that interest- only, they could get a loan for $710,000 – in other words, instantly a bigger house.

And that’s what a lot of people have done.

According to JCP research, there’s around a $159 billion of interest only loans from a total 1379 billion of home mortgages with the big four banks.

So it’s around 12 per cent, but its growing fast.

People with those loans, home owners or investors, who are especially vulnerable if they’re forced to sell and especially if house prices are falling.

But if they’re vulnerable, then banks that lent the money are also vulnerable under those circumstances.

That’s the point of the JCP research – it’s also why bank regulators are cracking down  on this style of lending.

Markets

Dow Jones on Friday up 141 points and Karl and Lisa, Australian dollar, this morning, 74.5 US cents…to watch out I say

Two hottest housing markets show signs of slowing down in April

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