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Abstract
A common situation is where a borrower is offered the choice of two types of loans—a fixed interest rate loan for a fixed period or a variable interest (floating interest) rate loan. Usual wisdom and advice is that the borrower opts for the fixed rate loan if interest rates are anticipated to rise in the future or opts for the variable rate loan if interest rates are anticipated to fall. However, depending on the magnitude of the rates offered, and the rate uncertainty in the market, such wisdom may not always be well founded. This note demonstrates why this might be. It derives a readily usable, low-mathematical-background expression showing, for borrowers, when fixed and variable rate loans are equivalent and when one rate type is better/worse than the other.
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Notes on contributors
David G. Carmichael
David G. Carmichael is Professor of Civil Engineering and former Head of the Department of Engineering Construction and Management at the University of New South Wales, Australia. He is a graduate of the Universities of Sydney and Canterbury; a Fellow of the Institution of Engineers, Australia; a Member of the American Society of Civil Engineers; and a former graded arbitrator and mediator. Professor Carmichael publishes, teaches, and consults widely in most aspects of project management, construction management, systems engineering, and problem solving. He is known for his leftfield thinking on project and risk management (Project Management Framework, A. A. Balkema, Rotterdam, 2004), project planning (Project Planning, and Control, Taylor & Francis, London, 2006), and problem solving (Problem Solving for Engineers, CRC Press, London, 2013).
Lachlan B. Handford
Lachlan B. Handford holds a first class honors bachelor of engineering degree in civil engineering and a bachelor of commerce degree with distinction, majoring in finance, both degrees from the University of New South Wales. His current work interests are in structural design and finance.