While most of Singapore was sleeping, the US Federal Reserve raised its interest rates by 0.25% for the first time in nearly a decade, signalling to a certain degree a level of confidence in the recovering US economy. Lazily known as “The Fed”, this move has been anticipated for a while now, and we’ve previously written a bit about what would happen as a result of this inevitable increase. But first, a little background on what’s going on.
What Is The Significance Of The Fed’s Interest Rate?
The Fed essentially controls the interest rate in which institutions borrow money at, and after the massive housing and banking sector crash of 2007-2009, they lowered the cost of borrowing to near rock-bottom levels in a bid to stop the US economy from plunging into another Great Depression. To put it simply, institutions needed money to stay afloat, and this lowered interest rate made funds a lot more accessible.
The current interest rate increase comes at a time where the Fed feels the economy has recovered sufficiently and any maintenance of low interest rates might lead to a higher inflation rate. According to the Federal Open Market Committee (FOMC), they expect the following increases in interest rates to be gradual, with the rate expected to rise to about 1.4% by the end of 2016.
How On Earth Does This Affect Singaporean Homeowners?
Right about now, you might be wondering why we are even talking about something that’s going on in the US. In Singapore, banks lend each other money based on the Singapore Interbank Offered Rate (SIBOR), which is basically a daily reference rate that banks offer to lend unsecured funds to other banks in Singapore. How does the interest rate of borrowing US funds relate to this?
The cost of funds for a foreign bank to bring in money (which they do in USD) will usually be pegged to the US interest rate. Should the US raise interest rates to 3%, for example, then local banks can easily raise SIBOR to 2% and still get business from the foreign banks as it would still be cheaper to borrow from a local bank. This is why SIBOR is likely to increase significantly when the Fed increases their interest rates.
For many Singaporeans who might have taken their home loans during the market drop in 2009 and later, SIBOR rates were at an all-time low. Things have obviously changed drastically, and this has a very direct impact on the home loans that Singaporean homeowners are currently servicing. For instance, in January this year 3M SIBOR was at 0.46%. But right now, 3M SIBOR has risen to 1.07%.
Needless to say, you can expect a gradual increase in SIBOR over the next year, which will in turn affect SIBOR-linked home loan packages. Currently, 3-month SIBOR home loan packages are around 1.8%, and this is only set to increase in the year ahead.
What Can Singaporean Homeowners Do Then?
2015 has seen a strong shift away from SIBOR-linked packages, as it would seem that many Singaporeans value the security of taking up a Fixed Rate home loan package. MoneySmart’s percentage of Fixed Rate home loan applications has seen a dramatic increase from 18.1% in January 2015 to 63.6% in November 2015. Singaporeans looking to get out of their SIBOR-linked home loans can consider refinancing into one of the two types of home loan packages that are very popular at the moment:
Fixed Rate Packages
While fixed rate packages usually have higher interest rates than the other packages, people are still gravitating towards these packages because of the complete lack of any fluctuations during the time period in which the fixed interest rate applies. It’s important to consider your finances when refinancing into a fixed rate package earlier rather than later because of the rising interest rate environment. If SIBOR-linked rates increase to 2.4% for instance, Fixed Rate offerings will likely be around 2.6% or higher.
However, clearly you can’t put a price tag on peace of mind, and some Singaporeans are willing to pay a premium for that, especially given that the Fed has already made it clear that interest rates will continue to gradually increase for the next couple of years.
Fixed Deposit-Linked Rate Packages
The (relatively) new kid on the block, Fixed Deposit-Linked rate mortgages are pegged to the Fixed Deposit (FD) interest rates of DBS and OCBC, currently the two banks that offer this rate. For DBS it’s pegged to the the 18-month FD rate and for OCBC it’s pegged to the 36-month FD rate.
In the past 10 years during the interest rate peaks, 3M-SIBOR was 3.95% (June 2006). However FHR18 was 1.8% and 36FDMR was 0.925% only. Given the historical benchmarks, we can assume that in the next interest rate high, these Fixed Deposit-Linked rates will very likely be safer and less volatile compared to SIBOR. With this assumption, homeowners are more inclined to move to a safer rate – compared to SIBOR and SOR – and a currently lower rate – compared to a Fixed Rate package.
All in all, it’s important to consider what home loan package works best for your current financial situation. You don’t have to figure this all out on your own though. A few minutes is all it takes to go through MoneySmart’s Refinancing Wizard, which will then allow you to speak to our mortgage specialist (at no cost at all) to get a bit more guidance as to how to best optimize your home loans such that you don’t end up getting stuck in a high interest rate environment before you know it.
Are you planning to refinance your home loan now that the Fed has finally made their announcement? Share your thoughts with us here.