With the Bank of England (BoE) looking ever more likely to increase rates in the near future, now is the time to start thinking whether your business would benefit most from a fixed or floating interest rate business loan.
With strong wage growth and stubbornly high inflation rates, it has now become apparent that the BoE will be forced to start increasing interest rates, possibly as early as May. How aggressively rates are increased is still an area of debate but the general consensus is that rate hikes will be small and irregular.
Whilst most lending remains linked to a floating rate, businesses will remain exposed to an increase in interest costs. At the same time, banks and other lenders will start to factor in future rate hikes into their fixed rate business loans. So choosing between one and the other is not as straighfowrward as picking the lowest headline rate. At any rate, UK Finance estimates that in Q3 2017 there was over £108 billion net bank lending to businesses. Assuming that is all floating rate, the total interest bill would rise by more than £270 million for every 0.25% rise in interest rates (or nearly 1.1 billion for a cumulative 1% rise in rates)
In the UK, the rise in interest costs is likely to be exacerbated by a little known BoE initiative: in August 2016 it setup the Term Funding Scheme, or TFS. This scheme channelled ultra-cheap funding to banks and was meant to help banks keep their lending rates low and offset the initial market reaction to the Brexit vote. The TFS closed in February and that is expected to lead to a rise in lending rates over time, independent of how the BoE manages its own base rate.
Raising funds through a floating rate loan may be the most common approach to financing the growth of a business. However fixed rate loans, while less common, offer more certainty. Furthermore our research has shown that when interest rates are rising fixed-rate loans can also be, in the long run, cheaper than their floating equivalent.
Deciding between fixed or floating business loans may only be part of the problem for many of the UK's SMEs anyway as banks still remain reluctant to offer fixed products. However some lenders in the private debt market have a fixed cost base and can, therefore, offer business loans at a fixed rate.
Even if there is no immediate pressure to make a decision on business loan structure, with central banks around the globe moving rates from their historic lows, it is certainly a good time to begin thinking about which may be best for your business.