The 12-month Euribor, the index to which most variable mortgages in Spain refer, fell this Tuesday to 3.509%, 9% less than last Monday. It represents the biggest drop since July last year, just when the ECB started the current cycle of interest rate hikes. The fall is caused by the US banking crisis. But how do mortgages relate to recent financial meltdowns?

All. The evolution of variable interest mortgages is closely linked to the fate of financial markets. If you think that the failure of several small banks in the US does not affect you, you are very wrong, and especially if they have a loan with a variable rate. The attempted banking crisis is giving the Euribor a breather and this happens because the expectations that central banks will continue to raise interest rates have come to a screeching halt, fearing that they will have to change their current plan to lower interest rates .

The Euribor does not fail to reflect an interest rate, namely the one at which banks lend money to each other, and interest rates in the markets are plummeting. All types of interest are linked to a debt and in the end the interest serves to value the borrowed capital. For example, German or US bonds are outstanding debts that constantly change hands. The interest rate on the German Bund or T-Note swings downwards if there are many investors who want to buy it. In times of stress or uncertainty, such as a banking crisis, demand for this type of debt soars and interest rates drop.

Sovereign bonds and their yields are one visible part of how the market evolves, but yields on nearly all assets have plummeted in the current shock. And that happens because no one believes that central banks will keep raising official rates as long as there is a risk of a financial crisis. If that happens, what is least lacking are more restrictions on credit, understood as capital flow.

It should be taken into account that the evolution of the Euribor is closely related to the official rate set by the ECB. Or rather, with your expectations. If the Euribor reached -0.5% two years ago, it was because the ECB set the rate on deposits at -0.5%, a remuneration offered by the institution to banks’ liquidity. And if at the end of 2021 it started to shoot, it was because the market began to discount that the ECB would start to raise the price of money in the heat of high inflation.

The graph that explains why the Euribor rises or falls

Thousands of investors protect their positions with financial products, known as swaps, against possible rises or falls in rates or exchange rates. These movements are collected by the Overnight Index Swaps that synthesize and interpret the intentions of all investors, which translates into what the market expects.

The chart above looks complex, but in a visual way you can quickly see changes in the outlook for the ECB. Two weeks ago it was virtually discounted that, at the meeting next Thursday, the president of the institution, Christine Lagarde, would announce a new increase of 50 basis points to 3%. Now there are serious doubts that this movement will materialize and there are serious possibilities that the increase will be only 25 basis points, with which the rates would remain at 2.75%.

Where the perspective has changed is in the long term. The Euribor was already pointing to 4% because investors were sure that the ECB would bring rates to that level around July or, at the latest, in September. Now the market discounts that the peak will be 3.5%. This drop was produced overnight by the collapse of Silicon Valley. Given the generalized fall in interest rates in financial markets, investors almost automatically liquidate positions in financial swaps and, in this way, reduce the pressure on central banks to raise interest rates.

How is Euribor calculated?

The reference data, to which most mortgages in Spain are linked, is the twelve-month Euribor. It is an index that responds to the name European Interbank Offered Rate and is calculated using a panel of European banks that report daily at what rate interbank loans are made.

The panel comprises 18 European banks, including Santander, BBVA, Barclays, Deutsche Bank and Unicredit.

Every business day, at eleven in the morning, the average interest rate at which financial institutions lend capital for one week, one month, three months, six months and 12 months is published. Despite today’s drop, the monthly average remains at 3.8401%, above the 3.534% recorded in February.