The Reserve Bank of Australia (RBA) will next meet on 7-8 July. At that meeting, they will decide whether or not to cut interest rates.
Investors expect the RBA to cut the cash rate next week. The market is pricing a 97% chance of the cash rate being reduced by 25 basis points to 3.6%.
Typically, the big four banks wait for the official RBA decision to be announced before they pass on rate cuts (or hikes) to customers.
However, one big four bank has preemptively delivered a rate cut to its customers.
Which big 4 bank made the move?
Yesterday, ANZ Group Holdings Ltd (ASX: ANZ) announced it was cutting interest rates on its fixed-rate home loans by up to 0.35 per cent.
This takes its lowest fixed offering down to 5.19%, the lowest of any of the big four banks.
Fixed vs variable loans
Unlike the United States, where the majority of mortgages are made at 30 year fixed rates, most home loans in Australia are made at variable rates.
Fixed rates offer benefits such as certainty for a fixed term, which can help with household budgeting.
However, recent data has revealed that less customers are choosing fixed rate home loans. There is an increasing preference for variable rates. This is understandable, given that the RBA is expected to cut rates several times this year.
Homeowners on variable rates can compare different deals and refinance accordingly to reduce their interest payments.
The need to remain competitive for their fixed rate mortgage products is likely to have prompted ANZ (and other fixed rate lenders) to slash rates.
According to Savings.com, variable rate mortgages for the big four banks currently range from 5.94% to 6.29%.
If the RBA cuts the official cash rate by 1% over the next 12 months, which is the view of Westpac Banking Corp (ASX: WBC), the variable rate will land well below ANZ's 2 year fixed rate offer.
Of course, several macroeconomic events could cause the RBA to change course. For example, higher than expected inflation caused by higher oil prices for a sustained period of time. While the conflict between Israel and Iran appears to have cooled off for now, tensions in the Middle East remain elevated.
What should investors do?
Interest rate cuts could increase demand for ASX 200 stocks for two reasons.
Firstly, lower mortgage payments mean more money in investors' pockets. The next few months could be a good time for Australian homeowners to begin their investment journey or increase their existing share portfolio.
Investing in equities (in addition to property) will provide diversification benefits. Should there be a decline in the housing market, this could prove to be a good move.
For those starting out, broadly diversified exchange-traded funds (ETFs) are a good starting point. In the Australian market, the Vanguard Australian Shares Index ETF (ASX: VAS) is a solid option. For the US market, new investors could select the Vanguard US Total Market Shares Index AUD ETF (ASX: VTS) as their first investment. Both ETFs have low management fees and strong long-term track records.
Secondly, falling interest rates also make dividend investments seem more appealing relative to keeping cash in a term deposit. ASX bank stocks and ASX mining stocks are often flagged as strong dividend investments, with above-market yields.
However, given the strong run of the ASX 200 banking sector lately, the dividend yield on certain bank stocks has become significantly less appealing. For example, after rising 44% in 12 months, the dividend yield on Commonwealth Bank of Australia (ASX: CBA) shares sits at 2.6%.
Meanwhile, after a forgettable past 12 months for the mining sector, the dividend yield on many ASX 200 miners has become attractive. Macquarie currently prefers BHP Group Ltd (ASX: BHP) over Rio Tinto Ltd (ASX: RIO) and has assigned a price target of $40 to BHP. BHP currently offers a dividend yield of 4.9%, which could be attractive to passive income-oriented investors.
