7 ms·

Tumbling Interest Rates in Europe Leaves Some Banks Owing Money on Loans

38 points by pmcpinto 12y ago

ghshephard 12y ago
What I wish all these stories would do is capture what the net-impact is at the end of the month after all the fees are considered. For example, is there anyone who has ever netted a positive return at the end of the month?
- GFischer 12y ago
  Banks have quite a few tricks up their sleeves. I know of some cases where they massively mark up the life insurance policy fee % for their loans (particularly mortgages such as in this case), it's not such a significant fee but it's very profitable and it adds up (and more than offsets the interest rate loss I guess). You can hypothetically switch life insurance providers, but they probably don't even have a procedure and the bank would end up declining your loan.
  - pvaldes 12y ago
    This is interesting, so this mean that you can not change the insurance company of your house offered by the bank to other company during the mortage?
    - GFischer 12y ago
      I'm talking about life insurance on loans (Mortgage Protection Insurance), not fire or house insurance on mortgages which is much more flexible. Also, it depends on the bank. I'm pretty sure it must be much easier in the U.S., the cases I know of are in South America (they basically won't give you the mortgage unless you use their approved overpriced life insurance, which is very low compared to the principal anyways). It seems that it's a little less dodgy in the U.S., but not too much: http://www.investopedia.com/articles/personal-finance/052014/why-you-dont-need-mortgage-protection-life-insurance.asp http://www.investopedia.com/articles/personal-finance/052014... Edit: a related case in Canada: http://thetyee.ca/News/2015/04/15/Insurance-Giant-Defraud/ http://thetyee.ca/News/2015/04/15/Insurance-Giant-Defraud/ Edit: exactly what I'm talking about, an English example http://www.consumeractiongroup.co.uk/forum/showthread.php?396772-Is-Life-Insurance-compulsory-on-a-mortgage http://www.consumeractiongroup.co.uk/forum/showthread.php?39... Edit: another example of how banks use other products to drive profits, but this one misfired: http://www.thisismoney.co.uk/money/markets/article-3035922/Banks-forced-pay-billions-compensation-mis-selling-payment-protection-insurance.html http://www.thisismoney.co.uk/money/markets/article-3035922/B... Wikipedia article: http://en.wikipedia.org/wiki/Payment_protection_insurance http://en.wikipedia.org/wiki/Payment_protection_insurance " the insurance would commonly make the bank/provider more money than the interest on the original loan, such that many mainstream personal loan providers made little or no profit on the loans themselves; all or almost all profit was derived from PPI commission and profit share "
snsr 12y ago
Please stop submitting WSJ links.
gilrain 12y ago
I'm sure their respective governments can do something about this tragedy. The banks always win, everyone else always loses; that's Capitalism 101!
- deleted 12y ago
  [deleted]
adaml_623 12y ago
The thing is that the bank is still doing OK out of this (as is the customer obviously). Banks have the ability to raise capital. Then they can do something with the capital or they can leave it in the bank, in this case the central bank, who would give them negative interest. If they lend it to a customer who buys a house then they will get slightly better return on their capital with that customer (Trying to avoid the term "a less bad return"). As long as it's a temporary thing then the banks will ride it out and the customers will remember it fondly.
- URSpider94 12y ago
  Most banks raise capital by holding deposits from customers. If the bank now tells me that it's going to charge me -1% for my savings account, I'm going to pull that money out and keep it in a safe. Think about how aggressively banks compete on "no fee" accounts, and how aggressive customers are about moving their money to avoid fees. Mint, for example, practically sounds an alarm on my phone whenever I get charged a bank fee.
  - thaumasiotes 12y ago
    You might think twice about the safe if you had to keep, say, $800,000 in there.
    - URSpider94 12y ago
      1% of $800,000 is $8,000. I can rent multiple large safe deposit boxes in that same bank, with plenty of room for 8,000 $100 bills, for a few hundred $ per year.
msandford 12y ago
I'd like to borrow 100 trillion dollars please. I won't actually do anything with it, so you don't need to worry about my credit or ability to repay. In fact, I'll happily keep it in my account at your bank!
- ben_pr 12y ago
  That works awesome until there is a bail-in like Cyprus and Austria, then you are pretty well screwed, something like a 40% hair cut on your trillion $ will make you run for the tums. If I'm not mistaken the reason interest rates are so low and the dollar so high is because people are looking for a safe place to put their money where they wont get a hair cut if the bank fails.
  - msandford 12y ago
    Don't worry, I'll be shipping every dollar over 100 trillion out daily to a place where it's harder to get at. If they want their 100 trillion back they can have it. If they want the money that's already left the country, well, I already spent it all! Whoops!
- maxerickson 12y ago
  I think if you don't have 100 trillion in assets to secure the loan with they might not give you the favorable rates that people got on these mortgages.
  - msandford 12y ago
    Do the 100 trillion in assets have to be marked to market, or can I make up whatever price I'd like and they have to accept it as valid? If it's the latter, that'll be no problem at all!
    - maxerickson 12y ago
      I expect the banks would want to value the assets themselves.
troels 12y ago
Zero is an arbitrary limit - It may have a psychological signal, but there is no reason it should be more shocking that the rates drop under zero than when they dropped under 0.1% or any other number.
- IkmoIkmo 12y ago
  True. One could argue it's the difference between making money (positive interest), being equal (0) or losing money (negative). But considering that inflation is generally 1-3%, the sub 1% interest rates are already losing money effectively in real terms (the only terms that actually matter). Inflation of course is extremely low these days in most OECD countries. But still, real losses on loans don't start at sub 0% interest rates, they can start at positive interest rates, too. I guess it does mark something peculiar, which is sort of new on this scale. Insane levels of QE that don't lead to any significant inflation, making negative interest rates a somewhat sensible approach. In the past we've seen very low interest rates, too, but usually there was at least some fear of inflation, and at times inflation skyrocketed.
- deleted 12y ago
  [deleted]
- ojbyrne 12y ago
  Time value of money - meaning that its better to have a $1 today rather than a $1 tomorrow - isn't really an arbitrary thing. If its not true, then we have deflation.
  - thaumasiotes 12y ago
    There are two concepts here: 1. $1 today might buy you less stuff than $1 tomorrow would. For example, maybe today $1 will buy you three today-apples, but tomorrow $1 will buy you five tomorrow-apples. This is arbitrary. The example shows deflation in apples, but there's no reason, a priori, that today should be better or worse than tomorrow, whether measured in apples or any other dimension. Maybe tomorrow $1 will get you two tomorrow-apples. 2. Under the assumption that the buying power of $1 is fixed and eternal, $1 today is necessarily better than $1 tomorrow because you have more options. Among other things, you might die later today. This phenomenon can't reverse, it can only make earlier money (or anything else) more valuable than later money. But it's not the same idea as #1. Deflation is an idea related to concept #1. $1 today being better than $1 tomorrow is concept #2.
chkuendig 12y ago
Why would banks lend to homeowners at less than 1% spread? That seems extremely low.
- dagw 12y ago
  A mortgage is basically a commodity, so a as long as you have several competing actors margins should approach zero. Secondly banks can bundle a bunch of other services together with a mortgage so they can condition the low rates on the customer buying into other higher margin products .
  - drjesusphd 12y ago
    > A mortgage is basically a commodity, so a as long as you have several competing actors margins should approach zero. No, it should approach the chance that it won't get paid back, which is decidedly not zero.
    - dagw 12y ago
      The margins the banks make should approach zero, and that takes into account the fact that sometimes they'll get back slightly less than they lend out. However to get the type of interest rates we are talking about here you can probably only borrow at about 75-80% the price of the house and only for a relatively secure house, so the expected payback for the banks is pretty close to 1.0.
      - vidarh 12y ago
        I borrowed at 90% LTV at 0.59% over Bank of Englands base rate. But yes, the expected payback is pretty close to 1. Especially since of course you're required to insure the house etc., so their risk is mainly that property values could tank but of course that risk for any given loan diminishes rapidly over time as more gets repaid, so the average risk across a large pool of loans is pretty low.
      - URSpider94 12y ago
        Would you like to explain that to all of the American banks who lost billions of dollars when housing prices crashed? Also, when a customer defaults on a mortgage, the bank gets "one house", not the cash value of the house. The bank then has to care for the house, list it with a broker who takes a sales commission, pay property taxes on the house, fix any damages that the prior owner may have left, and sell the house (which in the US housing crash meant competing against dozens of other foreclosures on the market in the same neighborhood).

38 points by pmcpinto 12y ago

What I wish all these stories would do is capture what the net-impact is at the end of the month after all the fees are considered. For example, is there anyone who has ever netted a positive return at the end of the month?

GFischer 12y ago
Banks have quite a few tricks up their sleeves. I know of some cases where they massively mark up the life insurance policy fee % for their loans (particularly mortgages such as in this case), it's not such a significant fee but it's very profitable and it adds up (and more than offsets the interest rate loss I guess). You can hypothetically switch life insurance providers, but they probably don't even have a procedure and the bank would end up declining your loan.
- pvaldes 12y ago
  This is interesting, so this mean that you can not change the insurance company of your house offered by the bank to other company during the mortage?
  - GFischer 12y ago
    I'm talking about life insurance on loans (Mortgage Protection Insurance), not fire or house insurance on mortgages which is much more flexible. Also, it depends on the bank. I'm pretty sure it must be much easier in the U.S., the cases I know of are in South America (they basically won't give you the mortgage unless you use their approved overpriced life insurance, which is very low compared to the principal anyways). It seems that it's a little less dodgy in the U.S., but not too much: http://www.investopedia.com/articles/personal-finance/052014/why-you-dont-need-mortgage-protection-life-insurance.asp http://www.investopedia.com/articles/personal-finance/052014... Edit: a related case in Canada: http://thetyee.ca/News/2015/04/15/Insurance-Giant-Defraud/ http://thetyee.ca/News/2015/04/15/Insurance-Giant-Defraud/ Edit: exactly what I'm talking about, an English example http://www.consumeractiongroup.co.uk/forum/showthread.php?396772-Is-Life-Insurance-compulsory-on-a-mortgage http://www.consumeractiongroup.co.uk/forum/showthread.php?39... Edit: another example of how banks use other products to drive profits, but this one misfired: http://www.thisismoney.co.uk/money/markets/article-3035922/Banks-forced-pay-billions-compensation-mis-selling-payment-protection-insurance.html http://www.thisismoney.co.uk/money/markets/article-3035922/B... Wikipedia article: http://en.wikipedia.org/wiki/Payment_protection_insurance http://en.wikipedia.org/wiki/Payment_protection_insurance " the insurance would commonly make the bank/provider more money than the interest on the original loan, such that many mainstream personal loan providers made little or no profit on the loans themselves; all or almost all profit was derived from PPI commission and profit share "

snsr 12y ago

Please stop submitting WSJ links.

gilrain 12y ago

I'm sure their respective governments can do something about this tragedy. The banks always win, everyone else always loses; that's Capitalism 101!

deleted 12y ago
[deleted]

adaml_623 12y ago

The thing is that the bank is still doing OK out of this (as is the customer obviously). Banks have the ability to raise capital. Then they can do something with the capital or they can leave it in the bank, in this case the central bank, who would give them negative interest. If they lend it to a customer who buys a house then they will get slightly better return on their capital with that customer (Trying to avoid the term "a less bad return"). As long as it's a temporary thing then the banks will ride it out and the customers will remember it fondly.

URSpider94 12y ago
Most banks raise capital by holding deposits from customers. If the bank now tells me that it's going to charge me -1% for my savings account, I'm going to pull that money out and keep it in a safe. Think about how aggressively banks compete on "no fee" accounts, and how aggressive customers are about moving their money to avoid fees. Mint, for example, practically sounds an alarm on my phone whenever I get charged a bank fee.
- thaumasiotes 12y ago
  You might think twice about the safe if you had to keep, say, $800,000 in there.
  - URSpider94 12y ago
    1% of $800,000 is $8,000. I can rent multiple large safe deposit boxes in that same bank, with plenty of room for 8,000 $100 bills, for a few hundred $ per year.

msandford 12y ago

I'd like to borrow 100 trillion dollars please. I won't actually do anything with it, so you don't need to worry about my credit or ability to repay. In fact, I'll happily keep it in my account at your bank!

ben_pr 12y ago
That works awesome until there is a bail-in like Cyprus and Austria, then you are pretty well screwed, something like a 40% hair cut on your trillion $ will make you run for the tums. If I'm not mistaken the reason interest rates are so low and the dollar so high is because people are looking for a safe place to put their money where they wont get a hair cut if the bank fails.
- msandford 12y ago
  Don't worry, I'll be shipping every dollar over 100 trillion out daily to a place where it's harder to get at. If they want their 100 trillion back they can have it. If they want the money that's already left the country, well, I already spent it all! Whoops!
maxerickson 12y ago
I think if you don't have 100 trillion in assets to secure the loan with they might not give you the favorable rates that people got on these mortgages.
- msandford 12y ago
  Do the 100 trillion in assets have to be marked to market, or can I make up whatever price I'd like and they have to accept it as valid? If it's the latter, that'll be no problem at all!
  - maxerickson 12y ago
    I expect the banks would want to value the assets themselves.

troels 12y ago

Zero is an arbitrary limit - It may have a psychological signal, but there is no reason it should be more shocking that the rates drop under zero than when they dropped under 0.1% or any other number.

IkmoIkmo 12y ago
True. One could argue it's the difference between making money (positive interest), being equal (0) or losing money (negative). But considering that inflation is generally 1-3%, the sub 1% interest rates are already losing money effectively in real terms (the only terms that actually matter). Inflation of course is extremely low these days in most OECD countries. But still, real losses on loans don't start at sub 0% interest rates, they can start at positive interest rates, too. I guess it does mark something peculiar, which is sort of new on this scale. Insane levels of QE that don't lead to any significant inflation, making negative interest rates a somewhat sensible approach. In the past we've seen very low interest rates, too, but usually there was at least some fear of inflation, and at times inflation skyrocketed.
deleted 12y ago
[deleted]
ojbyrne 12y ago
Time value of money - meaning that its better to have a $1 today rather than a $1 tomorrow - isn't really an arbitrary thing. If its not true, then we have deflation.
- thaumasiotes 12y ago
  There are two concepts here: 1. $1 today might buy you less stuff than $1 tomorrow would. For example, maybe today $1 will buy you three today-apples, but tomorrow $1 will buy you five tomorrow-apples. This is arbitrary. The example shows deflation in apples, but there's no reason, a priori, that today should be better or worse than tomorrow, whether measured in apples or any other dimension. Maybe tomorrow $1 will get you two tomorrow-apples. 2. Under the assumption that the buying power of $1 is fixed and eternal, $1 today is necessarily better than $1 tomorrow because you have more options. Among other things, you might die later today. This phenomenon can't reverse, it can only make earlier money (or anything else) more valuable than later money. But it's not the same idea as #1. Deflation is an idea related to concept #1. $1 today being better than $1 tomorrow is concept #2.

chkuendig 12y ago

Why would banks lend to homeowners at less than 1% spread? That seems extremely low.

dagw 12y ago
A mortgage is basically a commodity, so a as long as you have several competing actors margins should approach zero. Secondly banks can bundle a bunch of other services together with a mortgage so they can condition the low rates on the customer buying into other higher margin products .
- drjesusphd 12y ago
  > A mortgage is basically a commodity, so a as long as you have several competing actors margins should approach zero. No, it should approach the chance that it won't get paid back, which is decidedly not zero.
  - dagw 12y ago
    The margins the banks make should approach zero, and that takes into account the fact that sometimes they'll get back slightly less than they lend out. However to get the type of interest rates we are talking about here you can probably only borrow at about 75-80% the price of the house and only for a relatively secure house, so the expected payback for the banks is pretty close to 1.0.
    - vidarh 12y ago
      I borrowed at 90% LTV at 0.59% over Bank of Englands base rate. But yes, the expected payback is pretty close to 1. Especially since of course you're required to insure the house etc., so their risk is mainly that property values could tank but of course that risk for any given loan diminishes rapidly over time as more gets repaid, so the average risk across a large pool of loans is pretty low.
    - URSpider94 12y ago
      Would you like to explain that to all of the American banks who lost billions of dollars when housing prices crashed? Also, when a customer defaults on a mortgage, the bank gets "one house", not the cash value of the house. The bank then has to care for the house, list it with a broker who takes a sales commission, pay property taxes on the house, fix any damages that the prior owner may have left, and sell the house (which in the US housing crash meant competing against dozens of other foreclosures on the market in the same neighborhood).