What the previous high Interest rates can tell us
By Elizabeth Choong
/ EdgeProp Singapore |
Freehold RiverGate has had 19 profitable transactions since the start of last year. (Picture: Samuel Isaac Chua/EdgeProp Singapore)
SINGAPORE (EDGEPROP) - Homebuyers enjoyed low interest rates on their mortgage loans for more than a decade. However, interest rates have been on an upward trajectory in recent years and are widely expected to remain high this year.
Blast from the past?
With the exception of last year, 2008 is the most recent year when the inflation rate was above 6%, which is unusually high for Singapore. In 2008, the inflation rate was 6.6%, and GDP growth was 1.9%. The city-state reported an inflation rate of 6.1% and GDP growth of 3.6% last year, mirroring the economic conditions in 2008.
The poor economic performance of Singapore in 2008 was due to a global financial crisis that saw the collapse of several financial institutions such as Lehman Brothers. After the financial fallout, the US Federal Reserve cut rates several times during the same year and introduced quantitative easing to reduce interest rates, increase liquidity, and stimulate the economy. As a result, SORA was under 1.8% that year, unlike the current high-interest rate environment. The current weak economic condition is due to the pandemic, disruptions to global supply chains, and geopolitical tensions.
The property market in 2008 was also very different from the current market conditions. The average price for condominiums in Singapore was $924 psf in 2008, easing from a then-record high of $1,050 psf in 2007. Last year, the average price for condominiums reached an all-time high of $1,797 psf.
After slashing rates to 0% in 2008, the US Federal Reserve started to increase rates gradually in 2015 before cutting rates again in 2019 due to economic repercussions from COVID-19. However, rising costs have caused the US Federal Reserve to hike rates eight times since March last year. The latest target rate of 4% to 4.75% is the highest since October 2007. The rate hikes have effectively put an end to low mortgage rates long enjoyed by borrowers.
The economic conditions in 2008 share many similarities with the current economic conditions, but the lower interest rates and residential property prices make it unlikely that 2008 will hold many lessons for homebuyers today.
2006: Similar rates, different economic conditions
In 2006, SORA was above 3%. SORA is expected to hit 3% to 3.5% in 1Q2023.
Last year, Singapore's GDP grew by 3.6%, while the inflation rate was 6.1%. The Ministry of Trade and Industry projected that GDP will grow by 0.5% to 2.5% this year. However, current economic conditions are vastly different from those in 2006 when the GDP grew by a robust 9% and the inflation rate was a low 1%.
Economic growth for Singapore is expected to be weaker this year because most countries are still trying to recover from the pandemic and many advanced economies have implemented monetary tightening policies. There is also geopolitical tension from the Russia-Ukraine conflict.
The residential property market in 2006 differed from the current conditions too. Last year, the average price for condominiums was $1,797 psf, which is more than double the average price of $757 psf in 2006.
Despite having similarly high interest rates, the economic conditions and residential property market in 2006 are too different from current conditions for homebuyers to draw many useful lessons.
The implications of higher rates
Total Debt Servicing Ratio (TDSR) was implemented in June 2013 to ensure that borrowers are prudent when it comes to their borrowing, and are able to meet their financial obligations. TDSR limits their monthly debt obligation (including the mortgage loan being applied for) to 55% of their monthly income.
In addition to TDSR, HDB flat and executive condominium buyers are also subject to Mortgage Servicing Ratio (MSR), which caps their monthly mortgage payment to 30% of their gross monthly income. The cooling measures introduced last September also lowered the loan-to-value ratio for HDB loans from 85% to 80%. (Find HDB flats for rent or sale with our Singapore HDB directory)
The latest round of cooling measures also raised the interest rate used to calculate TDSR and MSR by banks from 3.5% to 4%. HDB will introduce an interest rate floor of 3% for calculating the eligible loan amount. These measures lowered the loan amount available to borrowers and helped ensure financial prudence.
The resident unemployment rate in Singapore was 2.8% last year. The tight labour market has pushed up the monthly median wage from work by 8.3% y-o-y to $5,070 last year. Monthly median household income also increased by 6.1% y-o-y to $10,099 last year, keeping pace with inflation rate.
Most importantly, the majority of Singaporeans live in HDB flats, and many of them obtained housing loans from HDB. The recent increase in interest rate does not have any impact on this group of borrowers because the interest rate for HDB loans is fixed at 0.1% above the prevailing Central Provident Fund (CPF) rate, which has stayed at 2.5% for a long time. This means that interest rate for HDB loans has stayed constant at 2.6% despite the recent mortgage rates hikes by banks.
There are some homebuyers who are ineligible for an HDB loan because they exceeded the income ceiling imposed by HDB or are buying private property. These owners will have to borrow from banks and are therefore exposed to the rising interest rates. However, most of them are expected to be able to shoulder the additional financial obligation due to financial prudence measures that are already in place. Moreover, most Singaporeans use their CPF to service their mortgage loans.
However, problems may arise for homeowners who are unable to fully service their higher mortgage obligation with their CPF. These owners will have to pay the difference with cash, which will eat into their disposable income. Some of these homeowners may not be able to keep up with the out-of-pocket payments, so more bank foreclosures and auctions could be on the cards this year.
Things to consider for buyers
Buyers who qualify for an HDB loan should consider taking up such a loan because its interest rate of 2.6% is much lower than the mortgage rates offered by banks. Buyers of HDB flats and executive condominiums should also do their due diligence and apply for all applicable government grants.
Successful applicants of HDB loans should remember that the interest rate is not fixed, but is pegged to the prevailing CPF rate. They should keep a lookout for any changes to the prevailing CPF rate, especially since there have been louder calls to increase the rate to combat rising costs.
Homebuyers who are ineligible for HDB loans should shop around for the best mortgage package from various banks before signing on the dotted line. Risk-averse borrowers can also consider mortgage packages with fixed interest rates over floating interest rates.
Borrowers should take note of the date when their loan is out of the lock-in period. Many fixed interest rate mortgages switch to floating after the lock-in period. Savvy borrowers will look for better options nearer to the date and switch to another fixed-rate package - with another bank or the same bank - once they are out of the lock-in period. Borrowers should also check if there are any incentives from the bank if they choose to reprice with the same bank after the lock-in period.
Borrowers are also advised to check for penalties (if any) that they have to pay if they decide to pay down the principal amount after the lock-in period. If borrowers have extra cash, paying down the principal amount will help to reduce their monthly payment.
Cash-rich buyers may want to consider paying more cash upfront and hence borrow less. Their interest payments will be less because they will be based on a smaller principal amount.
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