Pepper Money shakes-up fixed rate mortgage market as borrowers sweat over rate hikes

Pepper Money CEO Mario Rehayem says the lender is responding to the ‘high anxiety’ and uncertainty households are feeling about prospects for further rate hikes.

Pepper Money chief Mario Rehayem says the lender is responding to the “high anxiety” and uncertainty households are feeling about interest rates as it seeks to shake up part of the mortgage market.

This year has heralded fiercer competition for home loan customers among banks and non-bank lenders as mortgage growth has slowed. However, that is occurring as a refinancing wave flows through the market as hundreds of thousands of borrowers revert from ultra-low fixed rate loans to markedly higher variable rate mortgages.

Economists will be dissecting key March quarter inflation data on Wednesday to gauge whether the Reserve Bank will continue raising rates to temper soaring consumer prices. The central bank in April paused its aggressive tightening cycle, which has seen it deliver 3.5 percentage points of hikes since last May.

Pepper last week introduced to the market what it claims is an Australian first: a two-year fixed-rate home loan that doesn’t slug borrowers with break costs and other charges for repaying early, or paying more than specific limits. That also means if interest rates fall within the period, borrowers can refinance to a variable loan without being hit by additional charges.

Fixed-rate loan pricing typically draws on bond markets and lenders’ funding costs. Financial comparison site RateCity confirmed the Pepper product appeared to be an Australian first.

The new two-year Pepper fixed-interest rate mortgage is being offered at parity with the lender’s variable interest rate, which starts from 5.59 per cent per annum, or a comparison rate of 5.77 per cent annually. The comparison rate takes into account other fees and charges. If borrowers are seeking three-year fixed rate mortgage period, the pricing is 0.1 percentage points higher than the variable rate.

Mr Rehayem told The Australian Pepper’s data and analytics coupled with product development meant it could respond to changing borrower needs.

“While we are very aware of the intense competition, our focus continues to be on creating financial inclusion, by challenging the way loans are designed and distributed to help people succeed,” he said.

“In a rising rate environment, we have seen more borrowers wanting to lock in rate certainty to help partially alleviate living cost pressures and reduce the potential impact of further cash rate increases. As we have removed the barrier of break costs we have given customers the flexibility to shift to a variable interest rate product should rates start to trend back down.”

Mr Rehayem highlighted Pepper’s dialogue with mortgage brokers to understand how borrowers were faring in the market.

“Combining these insights with our ongoing engagement with our customers, asking and listening to their concerns, affirmed the high anxiety households are feeling about further rate rises and a general sense of uncertainty,” he said.

The new Pepper loan is only available for new applications until May 12, suggesting the economics may not be that favourable. Asked about how a fixed-rate mortgage with no break fees would affect Pepper’s net interest margin, a key measure of how profitable loans are, Mr Rehayem didn’t give a definitive answer.

“The impact of any product on net interest margin depends on the specific features, borrower behaviour and market conditions,” he said.

Bank of Queensland’s new boss Patrick Allaway last week warned of “irrational” mortgage competition across the sector, prompting the regional lender to curtail growth in that part of the market.

“It’s not an appropriate allocation of our capital to get returns below our cost of capital, so we have moderated our growth,” he said, noting the bank would participate again when market pricing became more rational.

There are signs that even the major banks are pulling back from fierce competition on variable rates. Expectations of fewer official rate hikes have also seen fixed-rate mortgage pricing recede.

Last week, ANZ increased rates on its basic variable home loan by up to 0.1 percentage points to 5.69 per cent, but only for new customers. The bank also cut its three-year fixed rate by 0.6 percentage points to 5.49 per cent.

The new Pepper loan is being made available for mortgages with deposits of 5 per cent or more, across categories including prime, near prime and specialist.

The tougher competition in the mortgage market for borrowers with clear credit histories saw Pepper flag in February it was shifting its focus to “higher-yielding” areas including asset finance, commercial real estate and mortgages for borrowers with a minor credit event or tarnished credit histories.

That spurred talk Pepper may be weighing a divestment of its prime mortgage book, but Mr Rehayem said: “Pepper does not comment on speculation. However, we can confirm that Pepper does not have its prime loan business on the market.”

KKR-backed Pepper holds its AGM on Thursday, when investors may receive a lending and credit quality update.