What is the cost of capital?

In its latest Living Costs Indexes (LCI) data, the Australian Bureau of Statistics (ABS) reported that employee households experienced the largest quarterly and yearly increases in living expenses, primarily driven by higher mortgage interest charges.

In the March quarter of 2024, mortgage interest charges surged by a whopping 7%, compared to 5.4% in December 2023. This increase was attributed to the transition of fixed-rate home loans to higher variable-rate mortgages, and the ripple effects from the RBA’s November cash rate increase.

Speaking of interest rates, during the week, Westpac joined the other big banks in pushing backs it’s prediction of an interest rate drop from the middle of the year to the end of the year. I’m not an economist, however that seems like a more reasonable expectation.

Off the back of statements made by the NAB CEO this week that their loans placed by brokers are now “below the cost of capital”, we thought we’d explore what the cost of capital means in this week’s newsletter.

In the context of mortgage lenders, the cost of capital refers to the expense incurred by lenders to obtain funds for lending purposes. This cost encompasses the interest rates paid to depositors or bondholders, as well as any other expenses associated with raising capital, such as administrative costs or fees.

Mortgage lenders rely on capital to finance the loans they provide to borrowers. The cost of this capital, in conjunction with the cash rate stipulated by the RBA, directly influences the interest rates charged on mortgages.

When the cost of capital is low, lenders can offer more competitive interest rates to borrowers. Conversely, when the cost of capital is high, lenders may need to increase mortgage interest rates to maintain profitability.

Additionally, fluctuations in the cost of capital can impact a lender’s ability to provide loans. If the cost of capital rises significantly, lenders may face constraints in accessing funds, leading to tighter lending conditions or higher borrowing costs for borrowers.

Overall, the cost of capital is a crucial factor for mortgage lenders, as it directly affects their ability to lend and the terms they can offer to borrowers.

Variable

The rates below are based on a $500,000 loan, with the borrower making principle and interest payments with a loan term of 30 years. The rates quoted may vary depending on the borrowers LVR.

1 Year Fixed

The rates below are based on a $500,000 loan, with the borrower making principle and interest payments with a loan term of 30 years. The rates quoted may vary depending on the borrowers LVR. At the end of the three year fixed period, the borrowers interest rate will revert to a standard variable rate for the life of the loan.