Going Long Or Short On Fixed Rate Mortgage?

Notwithstanding the stock market rout, as 3-month Sibor  surpasses 1.25% as at yesterday (13 Jan), UOB has already moved up its 2-year fixed rate home loan from 1.88% to 2.18% this week. We are expecting more banks to follow suit in the next few months especially if both USD and Sibor continue on its uptrend and there will likely be no more fixed rate below 2% by mid of the year.

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To take advantage of the near historical low interest rates should homeowners who like the security of fixed rate mortgage go for 2 years or much longer fixed rate term of 4 years? This is the question that lingers in the minds of many and not an easy one to answer. From our perspective, there are at least three considerations to look at:

1. Size Of The Loan

There are two schools of thoughts. On the one hand you have those with sizeable loans of over $1m who obviously want immediate interest savings on a lower 2-year fixed rate of 1.78% versus going for a 4-year fixed rate at a much higher rate of 2.28% (average rate based on CIMB’s package of 2.18, 2.18, 2.38, 2.38). The difference of 40 basis points or 0.40% (2.18-1.78) on a straight-line basis works out to be $4,000 a year or $8,000 over the 2-year fixed period based on a $1m loan, which is significant indeed.

Yet on the other hand there are those who argue that, at the end of two years by 2018 if global economic growth is back on solid footing, 3-month Sibor would have likely risen beyond 2% conservatively which means prevailing interest rate in Singapore will be 3% and fixed rates will be even higher at 3% to 3.5% p.a. With the ensuing interest uptrend homeowners whose 2-year fixed would have just expired in 2018 will then refinance at a minimum 3% fixed rate. By this time those who have locked in 4-year fixed much earlier today would now have the last laugh as they do enjoy a substantive savings of 0.62% (3.0 – 2.38) per annum over the final 2 years which works out to be $12,400. To put it all together, on a $1m loan, one will save $8000 initially in the 1st2 years but pay back $12,400 in the final 2 years which translates into a net loss of $4,400 by choosing a 2-year fixed term over a 4-year fixed term. If one adds the additional one more round of refinancing transaction costs ($2500-$2800) involved over 2 periods of 2-year fixed rate then the net loss widens to $7,000.

The point here is that on a bigger loan quantum, the costs of making a wrong bet on the pace of interest rate increases is much higher than that of say a $400,000 loan. Given the same scenario, the difference is an initial savings of $3,200 which will be offset by a larger payback of $5,000 in the last 2 years resulting in the final net loss of slightly over $4,000.

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On this argument it follows that those with bigger mortgage of over $1m should really go for 4-year fixed rate home loan. After all no matter which way you look at the it, even at average 2.28% you are really locking in fixed rates at near historically-all-time-lows in Singapore for the longest period (see chart below). That sound like the smart thing to do especially for those who are getting a new purchase loan where the 4-year term ties in nicely with the minimum holding period of a newly-purchased property (4-year Seller’s Stamp Duty).

2. Personal Interest Rate Outlook

Somewhat related to the first consideration, to go long or short on fixed rate term is really a factor of one’s outlook on interest rate in the next few years. 2016 started with continued blood bath in stock markets worldwide following signs of further deterioration in China’s economy, it does test the resolve of US and other central banks in the world on the case for monetary tightening, especially when inflation continue to stay down with low energy and commodity prices.

It is precisely with this view that one will opt for a 2-year fixed rate mortgage which will always be at a lower rate compared to a longer fixed term. The argument is that with so much uncertainties still at play in global economy especially China, the pick up in interest rate will be muted at least over the next two years which means there is little risk of being “overcharged” for the later years when one refinance home loan again. Hence the best strategy would be – take the winnings on the table first. Just lock in the lowest available fixed rate of 1.78% today and worry less about tomorrow.

Confused by now? This is exactly what we do here at MortgageWise – giving you the collective learning of all our clients through many rounds of discussion and deliberation. Make an informed decision after weighing all the pros and cons. Speak to our very experienced mortgage consultant who can shed more light on this issue.

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3. Will The Property Be Sold In Mid-Term?

Lastly, there may be those who actually have plans to sell the property after two or three years for example. Or those who left huge surplus of funds in their CPF account to earn the statutory minimum CPF interest of 2.5% p.a. and are all prepared to pay down a big portion of the outstanding loan should mortgage interest rise beyond 2.5% p.a. For this group there is no need to speculate the pace of rate hikes and they could just simply go for the lowest fixed rate over any fixed term desired.

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 mortgage products for banks and financial institutions in Singapore.

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