Understand history before you decide what next
Interest Rate Cycle
At MortgageWise, the interest rate cycle forms the basis of all our recommendations. Our experience shows that homeowners who made decision in isolation about going fixed or floating rate, without referencing where we are now in the cycle, tend to overpay on fixed rate over time.
We mapped out over a 30-year period the correlation between US fed funds rate* (black line) and our benchmark interest rate in Singapore, i.e. the 3-month SIBOR (red line). This is the interest rate cycle which gives you a good historical perspective of what really happened, and allows you to clearly identify phases in the cycle which correspond to a rise, a fall or a plateau. Different mortgage strategies will apply in different phases of the cycle. We give a recap of events in the most recent 10 years (since 2009) which serves as a good learning base for those new to mortgage planning.
Each time your loan comes up for renewal, you’ll have a higher chance of getting that decision right (fixed or floating) when you work with a company who has been through the full cycle and coming out on top (about 90% right).
Notice how each interest rate peak has fallen over the last 30 years, and it’s a lot harder for interest rates to come up in the last 10 years – primarily an effect of QE (quantitative easing) with the massive slosh of liquidity in the global financial markets. Put it in another way, the chances of you getting it right on fixed rate is about 30% or less and for that, you need to get your timing absolutely spot-on. That’s what we do here at MortgageWise.
THE PLATEAU: 2009-2015
This is the phase post financial crisis of 2008. US Fed slashed fed funds rate to zero and embarked on the initially-controversial QE (quantitative easing) programme over a 4-year period from 2019-2012 which would see it ballooned its balance sheet from US$1.5t to over US$4.5t by aggressively buying mortgage-backed securities, bonds & Treasuries. This released massive liquidity into the global banking system but the slosh of funds did not lead to hyper-inflation as feared by main critics of QE. What got inflated rather were financial/real estate assets all over the world as hungry investors chased after yields and returns which drives up stock market and property prices to unprecedented levels.
In terms of interest rate, you can see how the near zero Fed funds plus QE kept SIBOR down and flat at about 0.40-0.50% for almost 6 years from 2009 to 2014.
MortgageWise commenced operations in April of 2014. Had we begun earlier, our recommendation in this phase of the cycle would be to stay on the lower floating rate (headline rate 1%) but retain flexibility in the loan as much as possible in order to adjust when things change. In other words, stay nimble and that means a shorter lock-in period would be preferred. True enough, no one was quite interested in fixed rate home loans during this time with homeowners refinancing from a 1% home loan to the next 1% home loan whenever the thereafter rate shot up.
THE ASCENT: 2016-2018
US Fed hiked rate for the first time in a decade in December 2015 (the spike in black line). However, you can see that SIBOR has gotten ahead of that a year back and was in fact retracing and giving back some of earlier increases. We call this a false start and is best explained by the sudden collapse of oil price in October 2014 from its high of US$150 per barrel, leading to a shock in the system and liquidity crunch. SIBOR, however, eased back in the next two years due to the slowdown in Singapore’s economy and a faltering oil & gas market that wrecked havoc on banks’ asset base and loan books. This was the time when DBS stock price retraced all the way back to $8.
For mortgages, many who knee-jerked into signing for fixed rates at the end of 2014 and early 2015 found themselves shortchanged as prevailing rates did not rise much as anticipated by the end of their 2-year lock-in period. In fact, it went further south due to a falling SIBOR in 2016.
The real ascent came after Fed’s first hike in 2015 which was to be accompanied by 8 subsequent hikes over a 3-year period to bring Fed funds rate close to 2.50%. By early 2019, fixed rate home loans in Singapore have soared to 2.48-2.58% as repricing banks urged and hurried more existing borrowers to reprice to fixed rate.
This is the period where we recommended fixed rates when it went from 1.40% to 2.10% (We stopped recommending at 2.10%). Those who got their timing spot-on (those who signed in the 2H of 2016) has become real winners in this cycle. Still, there were some who lost out as they committed to fixed rates of 4 and 5 years which led them to overpay in interests after mid-2019 when the rise stalled and reversed.
One important lesson learnt despite what banks who launched 5-year fixed will tell you: Most ascent in interest rates do not last beyond 3 years. And that holds true in the last 30 years if you look closely at every up cycle. There’s a limit to how long the Fed can hike rates before the markets come crashing down.
THE FALL: 2019-2020
As fixed rate home loans hit 2.58% in early 2019, this was the point in the cycle where we switched to recommending floating rate home loans on SIBOR instead. Even before US Fed eventually executed 3 rate cuts starting in July that year.
We came to the conclusion because we went back to the chart and realised there’s no way the Fed can continue to hike in the same pace as before – another 9 more hikes over the next 3 years. Doing that would be near suicidal for financial markets as it would mean to continue the climb in the black line until it hits 5% like back in 2006! We were expecting rates to plateau at 1.60-1.80% when we give the recommendation. But when the black swan event of covid-19 hit, it simply played to our strategy to go on floating as rates crashed by March 2020.
To go floating rate on SIBOR loans and to switch over as quickly as possible to capitalise on the lag time banks would take to adjust their spreads up due to a falling SIBOR. Clients who went with our advice on floating back in 2019 had the last laugh when they locked down SIBOR home loans with spreads of 0.25-0.40% giving them an interest rate of only 0.55-0.80% thereafter. Effectively, they have saved themselves of any need to refinance or even reprice going forward, unless they sell the property.
THE PLATEAU?: 2021-Unknown
We have come full circle back to the doldrums of 2009 for interest rates. It has languished at 0.40% for the last 6 months since Aug 2020. Is now the time to go fixed yet with fixed rates at all-time low of 1.10-1.30%? Or stay on floating rate for this plateau period?
What’s Our Recommendation?
Speak to our experienced team of mortgage consultants here at MortgageWise today, and benefit from our collective wisdom and expertise working with clients all through the interest rate cycle. By making the right choice on fixed v.s. floating each and every time on renewal, it saves you much more than any vouchers or cashback in the market. Work with a trusted broker all through the interest rate cycle, starting from today!
*As Singapore central bank’s policy tool is to control our exchange rate against a trade-weighted basket of currencies, interest rates in Singapore are left to market forces. Hence, there is a high correlation between SIBOR as a “price-taker” and movements in Fed funds rate in the US, as evident from the chart. Global capital flight in search of higher or lower US Treasury yields over time can cause liquidity crunch or flood our banking system here with too many money.