Interest rate forecast – Where are interest rates heading?

What will happen to interest rates in 2025?

Interest rates have come down in 2024.

At Opes Partners, we think interest rates will keep dropping over the next couple of years. By November 2024, we expect the 1-year interest rate to be around 5.79%. By November 2025, we think it’ll fall again to 5.3% – a drop of 0.49%. Then, by November 2026, we’re predicting it will come down even further to 4.9%.

This shows a steady decline over time, which could mean some relief for borrowers.

But, of course, this is our best guess. No one knows for sure. The exact numbers will likely be wrong, but it's the general direction we're trying to pick.

That leads to a great question. Why bother putting together a forecast at all?

Here at Opes, we encourage investors to forecast the cash flow of their properties. So, we need to "guesstimate" where interest rates might head.

Where do the banks think interest rates will head? 

Each bank has its view on where interest rates will go. ANZ is the only one that publishes specific interest rate forecasts.

ANZ thinks the 1-year interest rate will fall to 5.3% by mid-2025.

In other words, they think interest rates will fall more aggressively than we do.

This is a big deal.

If ANZ is right, the repayments on the "average buyer" mortgage would fall by $88 a week, from what they are now (August, 2024).

It could also make getting a mortgage a bit easier.

A 1.5% drop in interest rates could mean a first home buyer could borrow an extra $75k, or $132k for an investor.

More from Opes Partners:

• How to handle higher interest rates... 4 strategies to manage your cashflow (Podcast)
• What are the current interest rates in NZ? (Article)
• The latest interest rate changes from the main banks (Article)
• What interest rate should I choose? (Article)

Is the OCR going up or down?

The OCR (official cash rate) is the Reserve Bank's interest rate. It influences other interest rates.

The Reserve Bank has just cut the OCR to 5.25%. They plan to keep cutting over the next 18 months.

Their current forecast has the OCR hitting 3.75% by the end of 2025. That implies a further 1.5% drop.

This is a big change compared to their forecast from just 3 months ago.

But these cuts will only come if inflation continues to fall.

So, what’s happening with inflation?

Interest rates will only continue to fall if inflation falls.

Last month, inflation fell to 3.3%. That's lower than the Reserve Bank thought it would be. They thought 3.6%.

But that is still too high. The Reserve Bank's goal is to keep inflation between 1-3% over the medium term.

However, a year ago inflation was 6%. So inflation has fallen 2.7% over the last year.

So, it is coming down. And it's coming down faster than the Reserve Bank thought it would.

The Reserve Bank now thinks inflation will be 2.3% the next time the data is released.

What will happen to interest rates over the long term?

Previously, we've said the 1-year mortgage interest rate will be 4.5%.

These days, I'm thinking that's going to be closer to 5%.

Of course, sometimes interest rates will be higher, sometimes lower.

The future is uncertain. After all, it hasn't happened yet.

But here at Opes Partners, we feel 5% is the right number to use for 2 reasons.

The OCR ‘should’ be 2.75% over the long term

The Reserve Bank used to say the long-term neutral OCR is around 2-2.5%.

Neutral means when they are neither trying to speed up nor slow down the economy.

More recently, the Reserve Bank has predicted that the neutral OCR is closer to 2.75%.

Looking back over the last 20+ years, the average difference between the OCR and the 1-year fixed rate is about 2.25%.

There are differences from month to month, but the pair follow the same broad trend over time.

If the long-term neutral OCR is around 2.75%, then over the long term the 1-year rate should hover around 5%.

It's important to say we're unlikely to see interest rates settle as low as they did directly before Covid. E.g. in the 4%'s.

5% is probably a fair assumption, if not a little more on the conservative side.

Should I fix my interest rate for 1 year or longer?

At Opes, we typically recommend fixing for the 1-year rate.

The 1-year rate is the most expensive today, but once interest rates come down, today's longer-term rates will look expensive.

John and Sarah own an investment property and are deciding between 1 and 5-year fixed rates.

The 1-year is more expensive, and the 5-year is currently cheaper.

If they go for the 5-year rate today, they'll save a bit of money initially. But, what happens if interest rates fall after a year?

They saved money in the first year, but over the next four years, they might pay a much higher interest rate than they could otherwise get.

That's why many mortgage brokers say borrowers want shorter-term rates.

90% of mortgage brokers say customers prefer locking in for 1 year or less. That's according to Tony Alexander's Mortgage adviser survey (February 2024).

In that same survey, only 10% of advisers say customers prefer the 18-month term. No brokers say that most borrowers prefer fixing for 2 years or longer.

Right now, there is more risk in fixing for too long than fixing for too short.

What if your interest rate forecast is wrong?

Some investors ask, "What happens if your forecasts are wrong?"

They will be.

They are just best guesses based on the facts we have today. When the facts change, we change the forecast.

You can't predict the future with 100% accuracy.

But either way, we do know which way interest rates are heading.

So, if you're a conservative investor, either:

• run the numbers on your portfolio, factoring in higher rates in your forecasts, or
• lock in for a longer interest rate. It'll likely cost you more over time, but you are paying for certainty.
• You can also "stress test" your lending at higher interest rates.

Sign up for free to Opes+ to check your numbers. This can help you run the numbers on an investment property.