We are reaching the equilibrium interest rates sooner than expected.

What we meant by collision of fixed and floating is when banks continue to reduce their fixed rates but raise their spreads on SIBOR floating rate home loans until the gap between the two closes up and meet somewhere.  We see this equilibrium range to be at 1.20-1.40% right now.  But we argue that it could and should settle even lower at 1.00-1.20% eventually (read the end of the article).

And we are quite close now to this equilibrium interest rate range at 1.20-1.40%.  After US Fed crashed the fed funds rate overnight from 1.50% to near zero on 6 Mar, it took approximately 2½ months for SIBOR here in Singapore to play catchup.  That small window to exploit this laggard effect is nearly over.  

Here at MortgageWise, we’ve been urging all clients in the past months to switch to SIBOR home loans and lock down the low spreads (what the banks charge on top of SIBOR) before they rise even as SIBOR dips.  True enough we have now seen the spreads reverted back to levels last seen in the aftermath of 2008 financial crisis – 0.80% to 1.00% range.  A full cirle.  We have gone through a complete interest rate cycle of boom and bust.

Fixed rates, on the other hand, will drop over time as banks will still be able to make decent profits when cost of funds nosedive.  We have seen fixed rates come down at start of the year from 1.90% to now 1.50%.  We think fixed rates should drop to 1.30% level (our equilibrium range) but banks are reluctant to move it down as long as there are still takers at higher levels.  Why would banks want to cut their margins unnecessarily.  Especially when there’s a big segment of the market that still favour fixed rate after vivid memories of escalating interest rates in 2018 and 1H of 2019.

What Next For Interest Rate? 

Now that prevailing floating rates are mostly at our equilibrium range of 1.20-1.40%, expect them to trade sideways from here.  This is because we think SIBOR has fallen to its lowest point especially for 1-month which may stabilize at 0.15-0.20% range – rock-bottom in our view.  3-month SIBOR, however, might have some more way to go to close the gap with 1-month by falling to 0.25-0.40% if past patterns repeat itself.  Fixed rates at 1.50% are not quite yet the lowest point.  But it seems there’s huge resistance on the part of banks to want to bring it down other than sporatic promotions from time to time.  Fixed rates should bottom in the 1.30+% range.

When interest rates start to trade sideways, the emphasis shift from choosing between rates, to choosing loan features which will be most useful.  Some homeowners may want to sell or prepay on their mortgages in order to deleverage.  Others may like to “gear up” instead to get ready to pounce where there are distressed assets for sale.  Or for buying opportunities when property cooling measures are relaxed.  Yet, there’s another way to both “prepay” as well as parking your spare funds in a “deployable” mode at the same time – interest offset mortgage accounts.  It certainly makes a lot of sense to do interest-offset in times when rates are expected to trade sideways and where market volatility means more trading opportunities.

When Will Rates Rise Again?

There is an unfounded fear in the market that interest rate will rise swiftly once a vaccine is found or after covid-19 crisis is over.

In the latest release of Fed meeting minutes in April, the general consensus of Fed officials is for interest rate to remain at current 0-0.25% range for considerable time until the committee is confident that the US economy has largely recovered from the impact of covid-19 and is on track again for maximum employment (below 3.5%) and price inflation target of 2%.  That’s such a big gulf now from the current official unemployment rate of 14.7%!  Even though the latest US weekly jobless claims had tapered off to 2.4m people filling for job losses (from the high of 6.6m at the start of April), that still means a whopping 39m people in total had lost their jobs since the crisis started.  That’s more than a third of US labour force of around 160m!  Most experts predict that the official unemployment rate will rise to over 20% in the coming months as there’s usually some lag for retrenched workers in filing for jobless claims.

To give another perspective, look at how long it took the US Fed to get out of the low rate environment since the last crisis where the central bank pumped a total of $3.5 trillion via three rounds of QE (Quantitative Easing) into the market.  Its balance sheet ballooned from $900b at the start of 2008 to $4.5 trillion by the end of 2015.  It took the Fed seven years before they could finally get into a rate hike mode in Dec 2015.

Since the covid crisis, the Fed’s balance sheet has now reached a staggering $6 trillion as it bought more US Treasuries in six short weeks in March/April than the three QEs combined in the previous crisis – $3.5 trillion.  And this number is continuing to grow as the Fed has promised unlimited QE with buying of corporate bonds, currency swaps with other central banks amidst a surge for US dollar, and even a Main Street Lending Programme.

How long do you think it will take this time for the world to get out of another few trillions’ slosh of funds that’s bound to continue to hold up stock and asset prices but depress interest rates globally?  Will it take longer than seven years before we hear of another rate hike from US Fed?  I have no answer for that.

But one thing for sure – it’s unlikely to happen in the next two years.  

Why do I say that?  Even if US economy recovers sufficiently by 2021 for Fed to resume its rate hike against all odds, it would take more than a few quarters to confirm they can continue to hike without stalling the recovery.  That’s pretty much the same story all over again as the world struggles to get out of a “lower-for-longer” rate environment.  That would easily add another year of “trial and error” for the Fed who would be so paranoid about missteps in its tightening.

For this reason, it would make sense to bet on the lower end of this equilibrium range at 1.20% to 1.40%, than to sign on the dotted line for higher fixed rates.  In fact, we recall that in the last crisis most people seemed to be paying interest rate in the 1% range for quite some time. It’s thus not unreasonable to expect that even this equilibrium range for interest rates would drift downwards by 20 basis points to 1% to 1.20%.  All the more so when you look at how banks’ cost structures have improved in the last ten years with digitalization resulting in tremendous cost savings. How low rates would settle depends on how much cost savings banks are willing to share back with consumers.

To get to this new lower equilibrium range of 1%-1.20%, we need free market to work again where banks under pressure to compete for new signups will start to cut the spreads again.  We think the recent rise in spreads may have been somewhat overdone as SIBOR simply crashed too quickly causing some panic amongst banks to protect their margins.

When the dust settles, free market forces should work once again for the benefit of borrowers in this new “lower-for-longer” interest rate environment.

Since 2014, MortgageWise.sg has provided thought leadership in the mortgage planning space in Singapore, seeking to build trust with clients over the longer term rather than product-peddling for quick one-time deals.  So, be it to refinance home loan, buy your next Singapore condo or even review your commercial property loan, speak to our dedicated team of mortgage consultants here for the best Singapore home loan rates.