Explainer: Why home loan rates are rising so quickly

Mortgage rates have shot up in the last six weeks. Photo / Dean Purcell.

A sharp rise and high volatility in wholesale interest rates are being blamed for a steep increase in home loan rates and one economist says the peak is yet to come.

In early April home loan borrowers with at least 20 per cent equity could get a one-year fixed term special of 3.99 per cent with Kiwibank or 4.55 per cent over two years.

But today the bank announced its one-year rate would rise from 4.85 to 5.19 per cent and its two-year rate would be 5.69 per cent - up from 5.19 per cent.

Kiwibank's one-year rate remains the lowest of the major banks, which are all advertising rates of 5.35 per cent.

But borrowers are only able to get a rate under 5 per cent at the smaller or Chinese-owned banks for one year.

Heartland Bank has the lowest advertised rate at 4.4 per cent while ICBC is offering 4.45 per cent.

Over a two-year fixed term, only two banks are offering sub-5 per cent rates - Heartland Bank and TSB, while the major banks start from 5.69 per cent.

Jarrod Kerr, chief economist at Kiwibank, said there had been a sharp move higher in wholesale interest rates over the last month.

"The two-year swap rate which is a bit of a pivot point - the one that we look at the most - got as high as 4.55 per cent which is very high."

That was in mid-June. Kerr said the last time it was that high was around 2012/13 but last year the two and three-year swap rates had got to zero.

"It's been a while and it's the speed at which the wholesale markets have moved which has caught many by surprise."

Kerr said rising interest rates globally were behind the jump in the swap rates.

"Interest rates globally have pushed higher. Inflation globally is running at 9 per cent - 8.5 per cent in the US, over 9 per cent in the UK - and we have seen central banks coming to the party and lifting interest rates so it's expectations of further interest rate rises by the likes of the [US] Fed and the Bank of England - even the ECB [European Central Bank] eventually."

Kerr said that also been translated down into Australia and New Zealand with expectations that the RBNZ and the RBA were going to push interest rates even further.

The Reserve Bank is due to make its next cash rate decision on July 13 with economists picking another 50 basis point hike which would take it from 2 per cent to 2.5 per cent.

But Kerr said the market terminal rate was over 4 per cent.

"That's higher than most economists are calling for - so I think the market has got ahead of itself here pricing in a bit too much."

Jarrod Kerr, Kiwibank chief economist. Photo / Supplied

Reserve Bank forecasts point to the cash rate hitting 3.95 per cent by June next year.

"The market has gone there and then some," Kerr said.

He expected wholesale interest rates to drift lower from here with the two-year swap rate now trading around 4.2 per cent.

"We are expecting the Reserve Bank to stop hiking at 3.5 per cent. We think they have had significant bang for buck so far."

In late May Kerr predicted mortgage rates to rise to between 6 and 7.5 per cent over the coming year.

But already some five-year fixed term rates have risen to just shy of 7 per cent.

Kerr said mortgage rate rises had come sooner than expected and there was still some upside risk to the shorter term rates with the mortgage rate peak yet to come.

"They can still push higher from here."

About half of New Zealand's mortgage book is due to be re-fixed in the next six months.

"That's a lot of people coming off much lower rates onto much higher rates."

How do wholesale rates affect home loan rates?

Kerr said banks used wholesale rates to hedge their risk.

When banks lend out money on a two-year fixed rate mortgage they are receiving that fixed rate interest as income.

To hedge that they go out and pay a fixed rate in the wholesale market to lock in the spread (the difference between what the bank pays to borrow the money and what it gets from home loan borrowers).

"We have got to hedge our interest rate exposure and lock in the difference."

"The 4.2 per cent two-year swap rate in the wholesale market has meant we have had to push up our mortgage rates and that two-year rate takes into account where the market expects the Reserve Bank to lift the cash rate to and obviously the market has got a lot priced in."