(F) couple discussing on SORA vs SIBOR mortgage peg

What Is SORA & How Does It Work?

(Last Updated: 2 Jul, 2021)

SORA stands for Singapore Overnight Rate Average.  It’s important for us to understand SORA as MAS (Monetary Authority of Singapore) had endorsed the recommendations put forth by the various financial industry committees from ABS (Association of Banks in Singapore) to SC-STS (Steering Committee for SOR & SIBOR Transition to SORA), who had collectively announced the timeline for SORA to replace SIBOR as a loan peg for mortgages in Singapore back in Dec 2020.  There will be a 4-year transition period from 2021 to 2024 by which time SORA will become the only market-based (instead of BOARD-based) peg for pricing home loans in Singapore after end-2024 when SIBOR will be discontinued.

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 SORA will become the only market-based (instead of BOARD-based) peg for pricing home loans in Singapore after end-2024.

MAS actually provides a detailed documentation of SORA and how compounded SORA is derived, which it publishes on its website daily.

However, my guess is this 14-page documentation would be too daunting for the average homeowner to read through much less comprehend.  It is hence the purpose of this article to extract, interpret and present what we think are the key concepts of SORA and what’s important to understand as a homeowner with a mortgage that’s pegged to compounded SORA. DBS home loans, OCBC home loans and UOB home loans now include SORA in their packages even for commercial property loans. At least one foreign bank have also started offering SORA home loans and more are expected to follow suit.

Even existing homeowners on SIBOR-based home loans will transition to SORA-based home loans (after their lock-in expire) within the next four years as various banks start to announce their plans for this migration. It is thus high time for us here at MortgageWise to explain what is SOR and how it works.

1. What Is SORA?

SORA is a volume-weighted overnight lending rate in the money market that market participants like financial institutions charge when they lend to one another.  If it is an overnight lending rate which means its value fluctuates daily, how do you get a 1-month or 3-month SORA?

If we plot the actual SORA values (daily rates) where the earliest available data starts from Oct 2005 until Jun 2021 (16-year period), you will see the volatility issue involved in using it as a loan peg:

chart showing daily SORA volatility with 3-month SIBOR

Here, we use the value of daily SORA on the 1st calendar publication date of the month to plot the graph (daily SORA values for the day are published on the next business day, ie. the publication day). Imagine if your mortgage interest is pegged to actual daily SORA values, your interest rate can fluctuate greatly depending on which day in the month your interest rate is reset.

In order for SORA to be used as a loan peg, an average reading of SORA needs to be established.  According to MAS, instead of simply taking simple averages (adding up all the daily readings divided by no of days in the period), compounding average over a period better reflects the economic costs of borrowing overnight over a specified period.  It also better reflects time value of money more accurately.

Even existing homeowners on SIBOR-based home loans will transition to SORA-based home loans (after their lock-in expire) within the next four years as various banks start to announce their plans for this migration.

2. How Do You Calculate Compounded SORA?

(F) calculating mortgage interests

Compounded SORA for any period can be calculated using the formula given by MAS:

Fret not.  We are not about to launch into a mathematics session next to explain all the notations used (found in the MAS documentation for those who are keen).  Thankfully, the smart people at our central bank has figured out an easier way to do this via a SORA Index.  

First, the value of SORA on a starting point defined as the 1st business day of 2020 (SORA value published on 3 Jan 2020) will be set to 1.0000000000 (up to 10 decimal places) as an index.  MAS then simply calculates how much is the “interest earned” on this index the following business day by compounding it daily (or more days for weekends).  Think of it like a bank deposit with daily rest where an interest rate of 1.50% (annualized) for example means your deposits grow by 0.0041% (1.50% divide 365 days) each day as it is compounded with interest added and recalculated daily.  In other words, you can take SORA Index like you deposit $1 on 3 January 2020 and watch how this grows over time with daily compounded interest except that this daily interest added is not constant but varies as it’s an overnight market rate.

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With this SORA Index (base date 3 Jan 2020 where it equals 1) published daily, compounded interest can now be calculated easily by inputting the SORA Index value on the start and end date for any period like a rolling past 1-month, 3-month or 6-month, using the formula (extract from MAS documentation):

SORA Index computation formula

Still confused? I think the most important takeaway from this article is to at least understand the  meaning of compounded SORA for 1-month, 3-month and 6-month which is – the compounded average interest rate you “earn” from overnight interbank rates on a rolling past 30-day, 90-day or 180 days respectively (loosely speaking as there are some technical interpretations on business days in the MAS document).  Except here it’s not deposit rates you earn but lending rates which will be used to price your mortgages.  The concept of how it’s derived is similar though.

Compounded SORA for 1-month, 3-month and 6-month is the compounded average interest rate you “earn” from overnight interbank rates on a rolling past 30-day, 90-day or 180 days respectively.

MAS is the administrator for SORA, SORA Index and compounded SORA for 1-month, 3-month and 6-month, which collectively are referred to as SORA Averages.  It calculates and publishes on MAS website the full set of SORA Averages by around 9 a.m on the next business day. Also understand that in this blog we will simplify the terminology used for compounded SORA for ease of use. When we talk about 1-month SORA or 3-month SORA, we are actually referring to the 1-month compounded SORA or the 3-month compounded SORA respectively.

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3. How Does It Compare To SIBOR and Is It Good As A Mortgage Peg?

By now you might have realized the biggest difference between pricing your home loans on the two mortgage loan pegs is that while SIBOR is forward-looking (based on SIBOR value in the future on the next rate-setting date), compounded SORA is backward-looking (based on past rolling historical data of daily SORA).  What’s the implication for that?

As we are now at a historical low point in the interest rate cycle where the only direction for interest rate is to either move sideways or up, this makes SORA a good peg at least in theory.  Any hikes or upward shift in rates, the effects will be dampened with the 3-month “averaging down” of SORA using past data, as opposed to pricing in SIBOR where your loan will be repriced immediately at the new and higher rate.

However, over the months we have also observed that compounded SORA seems to be slightly more volatile just like the underlying daily overnight SORA where it averages.  Over the long term, does the compounding effect smoothen out the kinks we saw in the earlier chart for daily SORA (Chart 1)?

3-month compounded SORA vs 3-month SIBOR

To answer this question, we managed to overlay both the 3-month SIBOR and a “re-constructed” 3-month SORA (compounded backwards using the same SORA Index methodology) in our interest rate cycle (Chart 2 above). As we use the same timeframe of 2005 Oct to 2021 Jun for both Chart 1 and 2, you can clearly see that compounding effect has indeed “flattened out” the volatility of the underlying daily SORA to a great extent (comparing the orange line in both charts). In fact, the new 3-month SORA looks to be even less volatile than the 3-month SIBOR which it will soon replace. This is evident from the reduced swings in both directions up and down throughout the cycle (comparing the blue and orange line in the periods: 2007, 2008, 2015-2016, early 2018). At the same time, it exhibits by and large the same correlation as SIBOR with the federal funds rate (black line). Interest rate policy by US central bank is the main driver of interest rates here in Singapore as the main policy tool for MAS is exchange rate against a basket of trading currencies. We do not set and control interest rate. In other words, we are price-taker when it comes to interest rate.

4. Which Is Less Volatile: 1-month or 3-month SORA?

We have also taken the opportunity to reconstruct the 1-month SORA and examine its volatility against its 3-month cousin:


And the conclusion is what we’ve guessed as much: Compounding over a longer interval will smoothen out more of the inherent volatility of the underlying instrument. So, 3-month SORA is less volatile than 1-month SORA which in turn is less volatile than daily SORA readings. It then follows that 6-month SORA ought to be the least volatile amongst the 3 compounded SORA published by MAS. However, just like SIBOR-pegged mortgages, there may not be sufficient demand for banks to introduce mortgages pegged to 6-month SORA which will have the highest value by default. Another noteworthy observation is that in periods of higher interest rate (2006-2007, 2019), the gaps between all the averages tend to close. This is the same observation between 1-month and 3-month SIBOR which we discussed in an earlier article. But the same cannot be said about 1-month and 3-month SORA. To this end, 3-month SORA does seem to be the preferred choice in terms of reduced volatility as a mortgage loan peg.

5. My Loan Is Pegged To SIBOR, How Would I Be Affected?

Though SIBOR will be discontinued after 2024, we do expect banks to migrate existing SIBOR-pegged home loans to SORA earlier the moment lock-in periods expire. This should take place progressively over the next few years which can be as early as 2022.

As SIBOR values are by default higher than daily overnight rates (even though compounded), in all fairness, we do expect the corresponding spreads (the margin that banks add above the peg) to be adjusted up so as to return the same final interest rate. In theory, it should be adjusted by the same proportion as the gap between SIBOR and SORA as what you see in Chart 2 above. In practice, we know it’s more of an art than science. We have to trust the banks to be fair to its existing base especially for those who have signed onto SIBOR packages with super-low thereafter spreads back in 2019, or risk losing them in mass exodus.

You will be hearing from your existing bank regarding the migration offer in due time.

In summary, SORA has so far lived up to its expectation as a robust replacement to SIBOR. Our reconstructed “historical SORA” shows that it can be even less volatile than SIBOR. The use of backward-looking data makes it less susceptible to market inefficiencies or manipulations (forward-looking rates are more exposed to market factors on a single day’s fixing, such as quarter or year-end volatility) as the underlying overnight unsecured market is the most actively traded SGF funding market. In other words, SORA is a more robust interest rate benchmark over the long term.

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