Perfect time to cut your debt
Bondholders can reap the benefits of lower interest rates, writes Clinton Martle
THE Western Cape has the highest level of indebtedness — or debt-to-disposable income ratio — of SA’s provinces to the tune of 101%, according to the Bureau of Market Research (BMR) statistics.
FNB’S property market analytics unit has accumulated a wealth of statistics, including these provincial indebtedness estimates.
Gauteng has a ratio of 88%, well lower in second place.
Of SA’s nine provinces the Western Cape can be considered a relatively high-income province with the second-highest per capita income behind Gauteng.
Higher-income households can generally take on and service more debt relative to disposable income than lower-income groups, so it should be expected that the Western Cape’s debt ratio would be at the higher end of the spectrum. However, the fact that the BMR estimates its ratio to be significantly higher than Gauteng, the highest income province, is possibly concerning.
I’m certainly not an expert on household-sector income patterns, but a large part of household debt is property-related.
Consumer goods prices don’t vary much between provinces, while property values do, and the Western Cape’s land scarcity makes it the most expensive province for property.
In order to combat high land prices the Western Cape reduced the average stand size and also reduced the average building size, so compared with Gauteng and KZN it has a significantly smaller average stand size.
The land cost issue has even spilled over to parking, and a far greater percentage of sectional title units in the Western Cape do not have allocated parking (75%), compared with KZN (38%) and Gauteng (17%), suggesting a general under-provision of sectional title parking in the region.
The parking issue is driving up the commodity price to unrealistic levels and shows that propertyrelated measures to address affordability/cost-of-living issues could benefit from cutting your coat according to your cloth.
However, increasing debt to maintain a lifestyle not only causes trouble for individuals, but also bears down heavily on regions and ultimately the country as a whole, as seen in the US and UK.
While the effect of the Western Cape’s high level of estimated debt–to-disposable income ratio is difficult to determine, I believe it must have some effect. What we do know is that during the last interest-rate hiking cycle, which wasn’t extreme by our historic standards, SA’s level of indebtedness caused a high degree of pain in terms of bad debts. It causes the Western Cape to be at the highend of the indebtedness spectrum, increasing its vulnerability to inevitable interest-rate hikes and economic downturns.
If you are not on the housing ladder yet, now may be a good opportunity to get on, but be careful to buy within your means, bearing in mind rising costs that include interest rates, electricity and possibly other utility tariff hikes. However, given the Western Cape’s state of indebtedness, the current low interest rates presents an opportunity to pay down debt more aggressively and build a healthier balance sheet.
While viewed as insignificant by some, half a percentage point reduction in interest can have a very significant impact, as illustrated in the graph, showing the saving on a R500 000 mortgage loan at present would be R160.
However, assuming the hypothetical situation of a 10% interest rate for the entire duration of a R500 000 20-year mortgage loan, monthly repayments would be R4 825, implying the bond being repaid in 240 months or 20 years. A reduced interest rate of 9,5% on the R500 000 loan, when the bondholder fixes his repayment at R4 825 thereby resisting the temptation to reduce his monthly repayment, shows that the same R500 000 bond will now be fully repaid in 218 months, a year and 10 months earlier than the same repayment at 10% interest. In addition, the bondholder would also have paid R68 045 less interest had the bond been paid over 20 years.
Small measures can result in significant change in an individual’s financial future, and with indebtedness so high in the Western Cape the period of low interest rates is a perfect opportunity to take advantage of the long-term benefits. Why are we encouraging clients to pay down their debt on which the bank earns interest? For the simple reason that if our clients are financially healthy, then so are we.
Estimated household debt-to-disposable income ratio by province for 2009. Picture: Bureau of Market Research.
Clinton Martle ... increasing debt to maintain a lifestyle causes trouble for individuals.