transforming from mortgagor into mortgagee

Transform Yourself From Mortgagor Into Mortgagee

Not literally of course. Mortgagee refers to the bank and mortgagor refers to the person who mortgages the property to the bank for a loan. No we are not asking you to open a bank but to become shareholder of the banks in Singapore especially if your home loan is taken with them.

Once again I need to re-iterate that we are not an investment blog, nor are we qualified to dispense investment advice. We do not warrant that you will definitely make capital returns by following our advice here in this article, nor are we liable for any losses that you may suffer along the way. We made this call last week and we make it again here as the recent financial market malaise has rendered this a viable strategy indeed to manage rising cost of funds for a homeowner with the capability (this is not for everyone we do recognize), unorthodox no doubt.

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Let us now look at some numbers to explain our rationale behind such a strategy. We are talking about buying into any of the three local bank stocks for a medium term of 2 to 5 years hold but we will use DBS as an example here but it can also be OCBC or UOB take your pick. We will look at a typical outstanding loan size of S$600,000 on a property that was bought years ago but valued today at $$1.3m

CASE STUDY

Current outstanding loan                    = $600,000
Current valuation                                = $1,300,000
Remaining tenure                                = 22 years
Refinance new interest                        = 1.85%

Assuming this is single-mortgage client who has used $200,000 (including arrued interest) to-date from his CPF towards payment for this property, he can now ask to gear up (for private properties only) on the property when he refinance by taking an additional equity term loan (ETL) subject to meeting TDSR 60% as follows:

Maximum ETL = 80% of Valuation less CPF used less outstanding loan = 80% x $1,300,000 – $200,000 – $600,000 = $240,000

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Let us assume he chooses to just gear up on 20% of his existing outstanding loan of $600,000, ie. $120,000 instead of the maximum of $240,000. Let us look at impact on his monthly repayment and hence cash flow (note we are not going into amortization calculations of interest vs principal which will render this exercise too complex for understanding), on two scenarios below:

(A) He buys DBS at $14 (drop of 33% from recent high of $21 last July 2015) and the stock rises back up to $21 in two years when global economy especially China and oil price recovers. Meanwhile his interest on DBS FHR18 packages rises by 0.25% p.a. while 3-month Sibor rises by much more 0.50% p.a. which is our view here.

table showing monthly repayment 1

If we assume a straight-line rise in monthly repayments over the 2-year period,

  • Additional interest over 2 years he has to pay on original $600,000 loan due to interest increase:
    ($2912 – $2769) divide 2 x 24 mths = $1716
  • Additional interest over 2 years he has to pay for 20% gear up with the same interest increase:
    ($3496 – $2769) divide 2 x 24 months = $8724

Hence he would have incurred “extra” interest of $8724 less $1716 or $7008 because of the gear up.

On the investment side, let us assume he set aside 20% of this $120,000 ETL to help pay for the higher monthly repayments, and use the remaining 80% ($96,000) to buy DBS at $14 and cashes out at $21 before end of 2 years, his total capital gains will be 50% (increase of $7 on $14) on $96,000 or $48,000 which can cover his entire interest increase on geared up loan ($8724) by 5.5 times.

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(B) He buys DBS at $14 but waited 5 years instead for it to reach back to $21, and FHR18 actually increases at double the expected pace at 0.50% p.a.

table showing monthly instalment 2

If we assume a straight-line rise in monthly repayments over the 2-year period,

  • Additional interest over 5 years he has to pay on original $600,000 loan due to interest increase:
    ($3535 – $2769) divide 2 x 60 mths = $22,980
  • Additional interest over 5 years he has to pay for 20% gear up with the same interest increase:
    ($4242 – $2769) divide 2 x 60 months = $44,190

The $48,000 return on investment would still be sufficient to cover his full additional interest increase with gearing up of $44,190 and he has successfully “hedged” against rising mortgage. Only caveat is that the $20,000 set aside for loan servicing would not be able to cover for the full 5 year (difference of around $600 pm x 60 mths due to gearing up = $36,000)

To summarize, what we saying is that by taking just a 20% gear up for those who could, on their existing mortgage when they refinance, prima facie this is a viable strategy in a bid to manage rising borrowing costs in an interest upswing cycle. As all ships are higher when the tide rises, eventually everyone pays higher cost of funds no matter which package you switch to even fixed rate mortgage.

The window of opportunity is only available now. We do not know how much more DBS share price will come down from this point, or when the Chinese central bank will unleash a package of broad-based market stabilizing measures that will halt the decline. Personally I gave it a 3 to 6 month’s window for that to happen as the costs of a protracted slump leading to eventual deflationary pressures precipitating another recession is too high to bear.

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The other important point that the market seemed to have overlooked is that TDSR (Total Debt Servicing Ratio) was enacted back in 2013 exactly for the purpose today – to pre-empt an excessive over-leveraged market that will eventually crash when the cycle reverses. Now that it has been in force for past 3 years it would have helped to alleviate the situation and the market is over-reacting to rising NPLs (non-performing loans) from the 3 local banks. Exposure to oil & gas and commodity-related companies on loan books – yes, leading to higher provisions; NPLs on mortgage going up – yes, but for it to hit banks so hard as to cause its valuation to drop all the way back to near 2008 levels – over-reaction.

Run your own numbers on your mortgage situation. You may want to use our mortgage calculator to see the breakdown between interest and principal as you plan. This is not your run-of-the-mill kind of advice you will hear from most mortgage brokers or bankers. Being thought leader in mortgage solutions we always challenge ourselves in giving you new perspective and ideas – one of the reason why you should choose MortgageWise to be your partner in mortgage planning. And after weighing up the risk and rewards ratio, “transforming yourself from a mortgagor to a mortgagee” may just work for those who dare and again, this is only for a limited window. Caveat emptor!

* Know Your Risk: Investing in stocks entail substantial risks in the short term but such risks are known to come down with a longer investment horizon. Leveraging up to invest brings about risks such as stock market going into prolonged depression lasting longer than expected leading to losses on principal sum and interest costs; lenders may also exercise rights to call for partial principal loan paydown when valuations drop substantially in event of a property market crash.

At MortgageWise, 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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About Darren Goh

Darren Goh is the Executive Director of MortgageWise.sg, a thought leader in the Singapore mortgage industry, with frequent interviews and quotes by the press - Business Times, Straits Times, Zaobao and EdgeProperty for his views on the latest mortgage trends. He is an avid property investor with successful careers in banking & real estate before becoming an entrepreneur.
View all posts by Darren Goh

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