The number of interest only home loans in Australia is growing rapidly, raising concerns about the impact of rising house prices.
Moody’s Investors Service says interest only loans accounted for 43% of all new mortgages in June, up from 39% a year ago.
“This is a negative development for the residential mortgage backed securities market because interest only loans have a higher risk of default, particularly if interest rates rise from record low levels,” Moody’s says in its latest newsletter, Structured Thinking: Asia Pacific.
“At a time when Australian house prices and therefore mortgages are rising rapidly, the concern is that home buyers are turning to interest-only loans because they can no longer afford repayments on principal and interest loans.”
House prices have increased by 9.3% over the year to the end of September. In Sydney, the city with the highest growth, prices have risen by 14.3%.
Loans for investment properties have risen by a more modest rate, to 37.9% from 35.2%.
Moody’s says the growing gap between the percentage of interest only loans and investment loans, as shown in the chart below, shows that more owner-occupier borrowers are taking out interest only loans.
Once interest rates rise from their current record low levels, any issues owner-occupier interest only loan borrowers have with servicing their mortgages will be exacerbated, leading to higher delinquencies and defaults.
However, Moody’s says it is also important to note that some owner-occupier borrowers may be choosing interest only loans simply to maintain a level of flexibility in managing their repayments.
“Given that interest rates are at record lows, these borrowers may feel comfortable in paying only the interest on their mortgages and using any remaining available funds for other purposes,”Moody’s says.
“But, because these borrowers are making few, if any, principal repayments, their loan amounts will remain high … leaving them more susceptible to payment shocks when interest rates rise.”
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