The Moneywise column received some good questions last week regarding interest rates in Bermuda and the influence of US economic environment.

Essentially, readers who own mortgaged real estate property in Bermuda wanted to know if they should consider locking in a fixed rate mortgage that is offered at one percent above the rate they currently have; whether interest rates in Bermuda set by local lenders are influenced (moving in lock step) by the interest rates set at the US Federal reserve; and when Moneywise thinks that global (and local) interest rates will move upwards.

Leveraging the yield curve. Let us make some assumptions (without disclosing any confidential information) based upon the reader question that they financed their property under an adjustable rate mortgage contract.

As the name implies, the interest rate on the mortgage is adjustable and can be reset, according to the terms of the contract between the borrower and the lending institution, after interest rates rise or fall. The interest rate indicator that may be used to reset these rates could be LIBOR (London Interbank Offering Rate), or a US Federal Reserve rate plus an additional basis point (percentage charge), or another institutional rate.

Your mortgage contract will generally delineate these terms and conditions.

In the United States, for example, competition for the consumer mortgage dollar is fierce and closing costs are priced aggressively inexpensively. Borrowers have learned to ride an adjustable rate mortgage down the yield curve - that is seeing their rate become lower and lower over time. When interest rates begin to rise, these borrowers will then convert the adjustable rate mortgage to a fixed rate mortgage, locking in the same interest rate over the life of the loan.

How will local interest rates behave when the Federal Reserve begins to raise rates?

The interplay of the pricing of local mortgage interest rates against the US Federal Reserve is harder to quantify in Bermuda. Local rates may move somewhat in tandem with US Federal Reserve or other market indicators, or more often local lenders price interest rates at their discretion and in response to local market conditions, not always to consumer satisfaction: see "Borrowers are not seeing benefits from rock-bottom US rates", February 26, 2009 (http://www.royalgazette.com/rg/Article/article.jsp?sectionId=65&articleId=7d92d3730030005 Royal Gazette).

Consumers have the perception that local mortgage interest rates move up more quickly in response to global economic indicators, than they move down when interest rates decrease.

The Ministry of Finance, in its National Economic Report of Bermuda 2008, noted the gap between The US Federal Reserve and local lending rates had widened in recent years. Lending institutions also generate a "spread" (in income) between interest rates paid to savers and interest rates charged to loaners - the bank spread is the difference between the bank's cost of funds, in terms of interest paid to depositors, and the rate the bank charges to debtors on bank loans. That spread may also be different from competitive US financial institutions.

When will rates move upwards, in your opinion?

Essentially, I have no opinion, nor am I an expert on interest rate market movements. However, various financial experts have stated that interest rates will generally remain low until the summer of 2010, and possibly beyond. Low interest rates technically act as a stimulus for refinancing and new borrowings and capital recovery. The cost of money becomes cheap, but if the ever-feared inflation factor swings into play, economic pressure increases interest rates.

There are several other related factors to these timely questions, notably the current recession uncertainty in Bermuda.

We assume that the property is rented currently. Other issues and complications can arise. If market rental rates drop, and the tenant renegotiates a lower rate (or terminates the lease), the owners will have to have to make up the difference on the mortgage payments by contributions from their wages and savings.

What if one or both of them are made redundant?

There are two scenarios that can happen when adjustable rate mortgage interest rates change. If the adjustable mortgage interest rate increases, and the monthly payments remain the same, less of each payment will be applied to the reduction of the mortgage principal.

In the second situation, the adjustable mortgage interest rate is increased and the total monthly payment is also increased.

If our young composite couple is on a tight budget, and facing tenant or employment problems, any increase in monthly mortgage payments will be a budget buster.

Generally, a fixed-rate mortgage has the same interest rate and the same payment over the life of the mortgage. Given an uncertain economic market, keeping in mind that there will be a cost to renegotiate this mortgage, planning for the future with a fixed-rate mortgage is probably the better choice.

Although the information in this article has been gathered from sources believed to be reliable, please note that individual situations can vary, therefore, information in this article should not, and cannot be used as a substitute for qualified professional financial planning advice. It is not intended to be relied upon as a basis for any specific individual financial situation.

Martha Harris Myron, CPA, CFP(US) TEP (UK) JP- Bermuda is an international Certified Financial Planner practitioner. She specialises in independent fee-only cross-border tax, estate, investment, and strategic retirement planning services for Bermuda residents with cross-border and multi-national connections, internationally mobile people and US citizens living abroad. For more information, e-mail martha.myron@gmail.com">martha.myron@gmail.com or call 735-4720.