SINGAPORE (EDGEPROP) - Last month, the Federal Reserve cut its interest rates by 50 basis points, bringing the key lending rate to 4.75% to 5%. The last time the Federal Reserve cut its rate was in March 2020, when it reduced the rate by 100 basis points to 0% to 0.25%. Since then, the rate has been gradually increased, reaching 5.25% to 5.5% in July last year.

The Federal Reserve typically cuts its rate when the US economy needs stimulation and raises it when the economy is overheating. As such, the recent rate cut was expected, but the size of the cut was larger than anticipated.

In this article, we examine both the immediate impact of this rate cut on homebuyers in Singapore and its longer-term implications.

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Immediate impact for homeowners

The most immediate impact of the Fed rate cut would be a decline in the Singapore Overnight Rate Average (SORA) interest rate. Many floating-rate mortgage loans offered by banks in Singapore are pegged to SORA, so a decline in SORA means that homeowners with floating-rate mortgage loans will enjoy smaller monthly mortgage payments.

The three-month compounded SORA started this year at approximately 3.7% p.a. but has since declined to about 3.5% p.a. at the time of writing (see Chart 1).

Lower rates will improve buying sentiment

The rate cuts do not affect homeowners with mortgage loans from HDB, as the interest rate for these loans is pegged at 0.1% above the prevailing rate for the Central Provident Fund (CPF) Ordinary Account. Since the CPF rate has been 2.5% for a long time, the interest rate for HDB loans has remained at 2.6% for an extended period.

There is also no immediate impact on homeowners who are still in their lock-in period, as these borrowers cannot refinance their loans without incurring hefty penalties. Upon completing the lock-in period, homeowners may wish to refinance to a loan package with a lower interest rate. Likewise, there is no impact on homeowners with fixed-rate mortgage loans. As the name suggests, these loans have interest rates that remain unchanged for a set period, usually between one and three years.

Homeowners seeking a mortgage for a new property or looking to refinance are unlikely to find a loan package with significantly lower rates, as many banks have already adjusted their mortgage loan packages to account for the anticipated rate cuts.

According to Christine Sun, Chief Researcher and Strategist of the OrangeTee Group, further cuts to the Fed rate could improve buying sentiment because housing becomes more affordable. Sun adds “The decrease in interest rates may prompt individuals to consider purchasing larger homes or properties in upscale locations, since their mortgage payments have been reduced."

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Lower mortgage rates are expected if the Federal Reserve cuts rates further, which would place more downward pressure on SORA. This could lead to banks offering more attractive mortgage loan packages to attract borrowers. As a result, some homeowners may refinance, especially if their existing mortgage has a higher interest rate and they are no longer in the lock-in period.

Additionally, some homeowners with HDB loans may switch to private bank loans if mortgage rates fall significantly below 2.6%, the current interest rate for HDB loans. However, borrowers should note that bank mortgage rates are typically fixed for only a few years, after which they become floating rates that are usually pegged to SORA. Additionally, it is uncertain how long SORA will remain low. Borrowers should also note that once they switch to a bank loan, they cannot revert to an HDB loan.

Regulations still in play

The lower interest rates do not mean that it will be easier for borrowers to qualify for a mortgage loan or obtain a larger loan. Since September 2022, MAS has required banks to use an interest rate of 4% when conducting the Total Debt Servicing Ratio (TDSR) assessment on borrowers. TDSR was introduced by the government to encourage financial prudence by limiting the maximum mortgage loan amount borrowers can obtain. All of the borrower’s debt obligations, including the mortgage they are applying for, cannot exceed 55% of their monthly income.

Eugene Lim, Key Executive Officer of ERA Singapore said “The MAS stress test interest rate, used to determine the loan quantum, remains unchanged at 4% for now. We understand that some banks were previously using more conservative stress test rates of 4.5% or higher. However, following the Fed rate cut, some banks have begun to moderate their stress test rates.” According to Lim, the rate cut is expected to boost buyers’ sentiment but their purchasing power remains constrained by the stress test.

In addition to TDSR, borrowers' ability to qualify for mortgage loans is expected to continue being restricted by the maximum loan-to-value (LTV) ratio of 75%, imposed by MAS. Unless MAS eases its requirements for the TDSR stress test or lowers the LTV ratio, borrowers will continue to be constrained by these government regulations, which will cap their housing budgets.

Will SORA continue to fall?

We look at past trends to predict whether SORA will continue to fall. The collapse of Lehman Brothers and other financial institutions in 2008 led to the global financial crisis, resulting in the Federal Reserve cutting its rates several times that year. Additionally, quantitative easing measures were introduced to increase liquidity and stimulate the US economy. At the start of 2008, the Fed rate was 3.5%, but by the end of the year, it had fallen to 0% to 0.25%. The three-month compounded SORA started 2008 at 1.5713% p.a. but dropped to 0.4392% p.a. by year-end.

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The Federal Reserve began gradually increasing rates in 2015, before cutting them again in 2019 due to an economic downturn in the US caused by the pandemic. By the end of 2019, the Fed rate was 1.5% to 1.75%. As a result of the low Fed rates, borrowers in Singapore enjoyed a long period of low interest rates. The three-month compounded SORA remained under 1% p.a. from mid-2008 to mid-2018.

However, the Federal Reserve started raising rates again in 2022 in response to rising inflation in the US, reaching a peak of 5.25% to 5.5% in July last year. Consequently, the three-month compounded SORA has ranged between 3.4% p.a. and 3.8% p.a. throughout this year.

The close correlation between the US Fed rate and SORA suggests that the recent Fed rate cut will put downward pressure on SORA. Furthermore, SORA is likely to decrease further if the Federal Reserve announces additional rate cuts. A lower SORA would mean lower monthly mortgage payments for homeowners with floating-rate loans from banks.

How will declining interest rates affect housing prices?

The Fed rate bottomed out in 2008, and a corresponding decline was observed for SORA during that year. The average resale price for condos also fell by 7.6% y-o-y to $750 psf (see Chart 2). As a result of the global economic downturn, Singapore’s GDP grew by 1.9% y-o-y, while the inflation rate reached a record high of 6.6% y-o-y. In contrast, Singapore’s GDP grew by 9% y-o-y, and the inflation rate increased by 2.1% y-o-y in 2007.

Singapore’s current economic conditions are more positive compared to 2008. For 1H2024, Singapore’s GDP grew by 3% y-o-y and is projected by the Ministry of Trade and Industry to increase by 2% to 3% y-o-y for the full year. This is an improvement over last year’s GDP growth rate of 1.1% y-o-y. The inflation rate increased by 2.9% y-o-y for 1H2024, down from 4.8% y-o-y growth last year.

Residential property prices are also on an upswing. Based on transactions from the first nine months of this year, the average resale price for condos is $1,697 psf, up from $1,624 psf last year.

According to Ismail Gafoor, CEO of PropNex, market sentiment is expected to improve but interest rates will need to drop further before the market rebounds because there are other factors that affect housing demand including demand and supply dynamics, prevailing prices and cooling measures. He adds “Historical data showed that the periods where the three-month compounded SORA was low had tended to coincide with higher home sales such as the years following the global financial crisis, and during the pandemic.”

We examined Singapore’s economic data and residential property prices from 2008 to 2018 to draw lessons from the past. The most recent time when GDP and inflation rates were below 5% and nearly equal was in 2012. That year, Singapore’s GDP grew by 4.4% y-o-y and inflation by 4.6% y-o-y, while the three-month compounded SORA remained below 0.1% p.a. throughout the year. Meanwhile, the average resale price for condos rose by 7.9% y-o-y to $1,169 psf.

As such, housing prices are expected to continue their upward trajectory this year. However, the increase is unlikely to be as steep as in 2012, as current SORA rates are still higher than those in 2012, which will affect affordability.

A boost in developers’ confidence?

The number of bids for sites launched for tender under the government land sales (GLS) programme has been declining this year. Furthermore, URA has not awarded three GLS sites because they deemed the top bids for each site too low.

One of the three GLS sites not awarded was the white site along Marina Gardens Crescent. In February, URA rejected the lone bid of $770.46 million ($984 psf ppr), submitted by a consortium comprising GuocoLand, Hong Leong Holdings, and TID. Last month, URA also rejected the bid for the Jurong Lake District master developer site. The sole bid of approximately $2.5 billion ($640 psf ppr) that reached the second stage of the tender was submitted by a consortium including CapitaLand, City Developments, Frasers Property, Mitsubishi Estate, and Mitsui Fudosan. Earlier this month, the bid for the 60-year leasehold site designated for long-stay serviced apartments was also rejected by URA. A Frasers Property-led consortium had submitted the lone bid of $120.09 million ($461 psf ppr) for the site along Media Circle.

Lim commented “ The number of bids for GLS sites will largely depend on their location, with some sites being more popular than others. Developers may gravitate towards safer sites situated within HDB enclaves and near MRT stations, which would naturally result in greater competition. That said, in today’s climate, it is unlikely that we will see intense bidding involving more than ten developers for a single site.”

Gafoor concurred “The start of a Fed rate-cut cycle is positive news, but we expect developers to remain cautious in the near-term as interest rates are still elevated. In addition, the private new home sales market has also been relatively slow this year. So, we think developers will continue to be measured and selective in acquiring sites for residential development.”

Additionally, many developers still have unsold inventory. Data from URA indicates that at the end of 2Q2024, there were 37,768 uncompleted condos in the pipeline with planning approvals. Of the completed units, 20,566 remained unsold, up from 19,936 unsold units in 1Q2024 (see Chart 3).

Moreover, the average new sale price for condos fell by 5.6% y-o-y to $2,391 psf this year (see Chart 4). In contrast, the average price for new condos rose by 6.4% y-o-y to $2,532 psf last year. Additionally, sales of new condo units have slowed down. In 2023, 6,240 new condo units were sold, down from the 6,818 units sold in 2022. At the time of writing, 2,957 new condo units have been sold this year.

Conclusion

The recent Fed rate cut has had limited impact on mortgage rates because many banks have already factored in the expected cut into their mortgage packages. Additionally, there has not been any significant decline in SORA thus far.

Homeowners with floating-rate mortgage loans pegged to the one-month compounded SORA are expected to benefit from any decline in SORA sooner than those with loans pegged to the three-month or six-month compounded SORA. This is because the one-month compounded SORA is based on the daily SORA rate over a month, whereas the three-month and six-month compounded SORA reflects SORA rates over a three-month period and six-month period, respectively. Borrowers who can refinance their property may want to switch to a loan pegged to the one-month compounded SORA.

SORA is widely expected to fall further, especially if the Federal Reserve cuts its rate again. History has also shown that a decline in mortgage rates tends to precede improved market sentiment and higher sales volumes for residential properties.

However, borrowers should remember that MAS still requires banks to use a 4% rate when calculating TDSR, and the maximum LTV remains capped at 75%. As such, the loan amount available to borrowers is still constrained by these regulations.

Developers are still expected to bid cautiously for GLS sites in the near future, as many have a significant amount of unsold inventory. Additionally, the average price for new condos has declined this year.

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