I\’m not sure that I believe these figures:
Take the example of a five-year loan for £1m taken out in 2007. In this example the customer wants to fix their rate for the duration of the loan. The bank, with its sophisticated pricing systems, would look at the swap market and get the price of buying the equivalent swap. The rate at the time might be 5.2pc, however the bank, wanting to make a profit and knowing the customer has no access to swap market prices, would quote the customer a cost of anything from 5.5pc to 6pc.
If the customer agreed to the swap, the bank would instantly lay off the risk by selling the swap in the market and locking in a profit for itself of between 30 basis points and 80 basis points. In the case of a £1m, five-year swap, the bank would effectively get a customer to buy a swap worth £200,000 for a cost of £225,000 to £250,000. The bank would immediately claim this profit by selling on the swap into the market, netting itself a gain of between £25,000 to £50,000.
OK, so this is a pretty simple swap. Moving floating rate money into fixed rate money.
I\’m happy enough that it costs 30 to 80 basis points to do this. But the numbers they are quoting there, 5.2% say, that\’s the total interest rate cost of the product, not the difference between the floating and fixed rate price.
I could of course be entirely wrong about this but surely no one sane is going to hand over a fee equal to the entire currently expected interest rate cost of the loan (that £250k over 5 years) just to make sure that the interest rate doesn\’t change?
The cost of the swap itself is going to be the difference between the fixed and floating rates. More like that 30 to 80 bps in fact. Or perhaps £40 k as the fee, not £250k.
This has nothing to do with whether the banls were charging excessive fees of course. But I do have this feeling that the Telegraph has got the actual costs of swas wildly wrong here.
Anyone care to enlighten me?