What do I mean by that?
In recent months we have been getting a lot of enquiries on the “headline-grabbing” interest rate of 1% in the first year. Some banks go close like 1.02% or 1.08% in the first year but with a slightly shorter lock-in period like 2 years instead of 3. We hear many of our competitors also recommend these packages (let’s call them 1% home loans) and we are asked time and again – why do we not recommend them. Some even think the reason why we don’t recommend them is because we are not paid a distributor fee for marketing these 1% home loans. The truth is only one of these banks do not pay us and we even go as far as to tell all our clients which one, all because we always put our clients long term interest first. Well they can go ahead and approach the banks directly but I seriously urge them read this article first before signing on the dotted line.
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Look, there is no free lunch in this world. Ask yourself – if the 1% home loan is really that good and for real, why does the bank need to lock you in for 2 or even 3 years? Why doesn’t the bank just do away with lock-ins (like some current SIBOR packages) or just do a one-year lock? At 1% in the first year, notice it is even lower than 1M SIBOR packages which start from 1.17% in the first year with reduced spreads on SIBOR loans in recent weeks. You may like to refer to our floating rates chart here (as at 13 October 2016).
What we have observed is that with the drop in SIBOR over the past months, the attention has shifted from fixed rates to 1M SIBOR packages in the third quarter, especially when more banks start slashing down their spreads or markups to compete for business. However when some local banks start to introduce 1% home loans (based on DMR or Deposit Mortgage Rates) last month, with lock-in periods, suddenly the market seems to get caught up with this frenzy of 1% home loan and forgot about everything else. Some clients would tell us “I do not mind a lock-in of 2 years at all if I am getting 1%”. We don’t think that is a good idea and for good reason.
As a thought leader in the mortgage planning and advisory space in Singapore, we are concerned with this herd instinct of going for 1% home loans “blindly”. Before we explain our rationale we first need you to understand how does lock-in work. As the name implies, a “lock-in” is there to tie you down for a certain period of time like 2 years during which time you will be slapped with a penalty of usually 1.5% of the outstanding loan (or $10,500 for a typical loan size of $700,000) if you seek to redeem the loan in full. You normally do this either when you sell the property or when you remortgage it to another bank for better terms when interest environment changes. However one of the most neglected truth about lock-ins which you need to know is this – this penalty applies even if you choose to reprice with your existing bank, ie.stay with the bank but ask to vary the interest rates on your loan to another prevailing package. You can always reprice by paying an admin fee if you are out of lock-in periods, but if you are still within, then you will be liable to pay the 1.5% penalty even though you are not “leaving for another bank”.
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Given how lock-in works, now relook at the overall proposition of the 1% home loans but in a different light. When you sign on the dotted line for the bank to award you with a 1% in year 1, 1.45% in year 2 and 3, as you are unable to switch out of this package in the next 3 years whether it’s with another bank or the same bank, you are really taking on a huge “unhedged” position on interest rate movement – you are betting that interest rate will stay at these current low levels for the next few years or go even lower. On the other hand, the lender is betting on the other position that interest is on its way up and hence it is willing to “bait” you with a ridiculously low rate in the 1st year, but with a view to recoup this “interest margin forgone” the moment interest rises in the subsequent years. Does the 1% proposition still seem so attractive when cast in this light? I am not so sure if you look at the macro picture now.
So let’s talk about interest rate scenarios in the next few years. In this blog, we have since June conceded that we are unable to forecast SIBOR, not until December 2016 or later with “shock” events like Brexit and not until the US GOP election is over. Well, quite a lot has taken place since then. The market’s expectation swung from a “0% chance of rate hike this year with earliest move only in 2018” in the days immediately after Brexit, to the current odds of a 60% rate hike in December 2016 FOMC after recent hawkish comments made by Fed officials and the seemingly implosion of Trump campaign in the final weeks of the election. This vindicated our stance that it is futile to try and forecast the federal funds rate hike, a precursor for 3M SIBOR our benchmark interest rate in Sinapore. Since June we are of the view – just stay nimble. Do not take up any positions on interest rate movements but just go for the lowest floating rate mortgage but make sure there is no lock-in (or at least nothing more than a year). Alternatively just pay a slight premium and go for the absolute lowest fixed ratemortgage ie. 2 year fixed rate.
Compare All Latest Rates 2021
As we have mentioned earlier, the odds of a rate hike by December has been increasing over the months. All the latest news seem to support this view with September job numbers out from US at 156,000 which is all not that bad on closer scrutiny by financial analysts, and the show of will by OPEC to finally start trimming production levels after 8 long years albeit it’s only a small cut. Some experts in the market feel that oil prices may start to stabilize above US$60 per barrel by end of the year which will add to inflationary pressures in the US. All these signs, along with a Hillary win in GOP next month, will reaffirm what Janet Yellen has already hinted as a “compelling case” for one hike in 2016 – December FOMC. Should that happen you can expect local banks, already hard hit by rising NPLs from oil & gas sector, to capitalize on the event and raise DMR rates (controlled by the bank through deposit rates) to boost interest margin in a bid to shore up its revenue.
Although no one can foretell with 100% accuracy which way interest will go in 2017-2018, I do not think many would want to bet their money on rates languishing at these levels or with SIBOR going all the way back to 0.40 levels like in 2014. However when you sign a floating rate package with a 2 to 3 year lock-in, you are doing just that! Perhaps no other mortgage broker has put it to you this way. We beg to differ. And we have saying this for a long time, if you really have to, at least look at average interest over the lock-in period of 2 or 3 years and use that for comparison instead of just 1% in the first year.
So do you still think that we don’t recommend these 1% home loans simply because we are not paid by some of these lenders? And are you sure you want to take a bet against the banks when it comes to interest rate movements over the next few years? Think again.
At MortgageWise.sg, we seek to provide thought leadership in the area of mortgage planning in Singapore, taking deep dive into developments and news on mortgages & helping clients track interest rate movements. We do not just go for one-time business with clients but rather choose to build long trusting relationships by giving truly independent advice to the extent of losing the deal. We strive to become the first-choice mortgage partner for homeowners and the creditable distributor of home loans Singapore.