The Federal Reserve’s most recent rate cut begs the question among many buyers, “Will I get a better rate now?” The answer is, well, sticky.
AOPA Aviation Finance does financing for turbine aircraft buyers as well as for piston purchasers, so for the purposes of this discussion, I’m referring to our two most common market segments. They are the owner-flown, personal use aircraft segment fetching up to a half-million dollars, and the larger, most competitive segment, aircraft priced above a half-million.
Each segment is influenced by three things: number of lenders; how “sticky” those lenders tend to be; and net interest rate compression.
As my Economics professor was fond of saying; “prices tend to be sticky on the downside.” He was referring to overall supply and demand pricing, however, the adage is applicable here in that some lending institutions tend to “stick” with their current interest rates even when the Federal Reserve announces rate cuts.
Many banks financing aircraft in the first segment feel they can be “sticky on the downside.” Given there are fewer lenders in this space, that relative lack of competition translates to fewer options and thus less incentive for banks to lockstep follow the Fed’s moves.
Net interest margin, the difference between what bank clients pay in interest and what banks pay for deposits, is what lenders focus on for their bottom-line profitability. Given deposit rates can vary from area to area certain lenders tend to have more “margin” than others. As a result of these differences and without digging too deep into the mechanics of lender accounting, at a high level, it’s useful to know that not all lenders utilize the same benchmarks when quoting rates to account for these differences.
When interest rates get very low, like they are currently, some lenders are unable to keep lowering rates because they can’t get depositors to give them money if the deposit rates are too low. That narrowing difference between the two is called "net interest rate margin compression" and that compression is also contributing to lender stickiness on the downside.
Financial companies build loan packages from a mix of specific ratios and credit scores, not just from indexing a particular benchmark interest rate matrix. That’s why we encourage our members to consult with an expert who understands the whole picture. A focus on interest rates alone often misses larger implications. A good broker, whether it’s AAF or any other, can help you understand the relationship of all variables.
Lenders in the half-million and up segment have much more flexibility. Because the average loan amounts are greater in this space, there are more banks that compete for those buyers. In addition, those lenders are typically larger in size, they also tend to have more deposits and thus are generally able to get more competitive when things squeeze. That leads banks servicing this area to be more fluid in pricing and less “sticky“.
Still, there’s a caveat. In this higher-priced, most competitive segment, the average hold time for an aircraft is fewer than five years. Therefore, most loans are tied to a five-year, fixed term. Most lenders will price off a five-year benchmark like a treasury or a five-year swap rate. At AAF, we pay as much attention to those indicators as we do to the aircraft market. For example, looking at what’s going on with the five-year swap rate and tracking the history from now back several weeks, we know rates actually rose on the five-year cost of money.
I had a conversation about three weeks ago with a client intent on acquiring a turbine aircraft. His plan was to wait until the Fed made its announcement because he thought rates would come down. I cautioned him by pointing out it really doesn't work that way. Assuming the Fed’s decision will translate to the five-year cost of money going down accordingly is a bad assumption. The Fed is targeting new issuance of money, which is not five-year money.
I suggested he was probably better off financing now, but he stuck to his plan. Unfortunately, the subsequent Fed announcement was as expected and had no effect on five-year money. However, during this time period, there was increased stock market volatility and as a result of 5-year cost of money actually increased 25 bps (0.25%). That member’s incomplete understanding of the nuances in aircraft financing cost him a chance to save money.
Paradoxically, this market segment is so fluid, rates sometimes change daily. So, it's important to have a conversation with someone who can explain what to expect the process to look like and how to defend a good rate during the buying process. For example, AAF typically works with the lenders, committing them to lock in a rate for 30 days upon pre-approval or approval.
Because of our experience, and the volume of deals we transact, we can provide accurate data to our members in terms of the overall rate environment, projecting out weeks ahead. With us by your side, you can navigate any sticky situation.
Great rates. Great terms. Helpful and responsive reps. Three good reasons to turn to AOPA Aviation Finance when you are buying an airplane. If you need a dependable source of financing with people who are on your side, just call 800.62.PLANE (800.627.5263) or click here to request a quote.