Mortgage insurance to offset rates surge

Jul 18 2008 By Jeremy Gates

Fear of unknown boosts appeal of new product

Although interest rates usually fall when recession looms, there is no guarantee of that this time.

If UK rates rise from here, homebuyers lacking the protection of a long-term fixed rate mortgage could be squeezed.

This fear of 'what lies ahead' in the housing market will boost the appeal of a new product in personal finance launched at the beginning of the month.

Interest rate insurance is pioneered by MarketGuard, a new company belonging to the Association of British Insurers (ABI) and approved by the Financial Services Authority (FSA).

Its policies will pay out when mortgage rates exceed a level specified when they are taken out.

"We are overwhelmed by the early response - from lenders, housebuilders, financial advisors (IFAs) and mortgage brokers," says MarketGuard chief executive Chris Taylor.

"We have established a strong demand for the product, which will sell through financial advisors and brokers in a few weeks' time."

It can also be purchased direct online from MarketGuard, although the insurer is neither regulated or authorised to offer advice before purchase.

Taylor says MarketGuard became possible because his team found a way of offsetting risk by using money market instruments. The rules were specially amended in the last Budget to clear the way for a scheme intended to bring more certainty to households in uncertain times.

"It also represents a revolution in the insurance world because policyholders don't have to claim. The first they know of a claim is when money goes automatically into their bank account," Taylor says.

MarketGuard is aimed at borrowers - roughly 50 per cent of the total - who are not on fixed rate deals. It enables them to ensure monthly mortgage repayments cannot rise above a prescribed figure if rates rise.

"Today's borrowers are highly indebted and may have massively overstretched themselves to get on to the housing ladder," Taylor says. Our research shows that even the slightest rise in Bank of England base rate could tip people over the edge.

"Currently the only way for individuals to protect themselves against rising rates is a fixed rate mortgage.

"Our product can bring some stability to millions of borrowers either on variable rate mortgages, or nearing the end of fixed rate deals with little hope of getting a new fix because of tightened lending criteria or the prohibitive cost of remortgaging."

MarketGuard allows borrowers to choose their preferred insured rate at which their policy starts paying out: it can be between one per cent to 2.5 per cent above the Bank of England base rate and the policyholder's mortgage rate.

When both rates increase by more than this specified amount, the insurance pays out.

It pays out for a total period of two years but after the first 12 months, policyholders can fix cover for a further 12 months.

It means cover is available on most MarketGuard policies for between 12 and 24 months. A borrower owing £100,000 with 20 years of repayments to go could insure against a rate rise exceeding one per cent for £39 per month on a repayment mortgage and £53 (interest-only); with 25 years of repayments ahead, the cost is £42 and £53 respectively.

Premiums in all cases should be paid upfront.

But that first one per cent of any rise in rates, after a policy is purchased, must be fully absorbed by borrowers.

Ray Boulger, senior technical manager at mortgage broker John Charcol, thinks interest rate insurance could have a future.

"But I suspect the ideal time to insure against bank rate increases is when the rate is low and not expected to rise," he says.