Why Credit Traders Like Fixed Rate Mortgages ?

Tiong Bahru oozes that boho charm that Holland Village has long lost. And there I was, drinking a nice cold pint with my Big Kahuna friend, lost in an aimless discussion on mortgage rates, both of us perplexed as to why folks are sticking to floating rates when the fixed rate ones gives better value.

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That was when I hit on the jackpot. We are both credit traders, he more so than I, but nonetheless, possessing a credit oriented mindset.

Who would want to pay 2.18% for a 5 year fixed rate loan when the cheapest floating rate option is just about 1% ? That is about $ 11.8k more per annum !

On hindsight, if anyone had taken a fixed rate loan in the last 2 years, they would have probably lost out on interest payments.

How does a credit trader think then ?

Let’s take the example of a 3 year fixed mortgage loan of 1.3% which is what a mortgage broker claims is the lowest in the market.

The current 3 year interest rate is 1.03%, using what is on offer out there.

This implies that the bank offering the loan is making a profit of just 0.27% from you the minute you take the loan, assuming they hedge the full amount by locking in the 3 year interest rate swap (which is not exactly true because they would then receive the 6 month SOR at 0.30% which will allow them to pay depositors 0.05% and make a profit of 0.25% over that, as well).

In any case, the floating rate packages are all priced at no less than 0.7% above SIBOR.

0.7% versus 0.27% is a no brainer for a credit trader because it is between BBB and AAA and it feels good to be an AAA credit.

It does not stop as the interest rate trader mindset kicks in.

What on earth is SIBOR ?

There is no way of deriving that number from any monetary policy. It does not trade in the market much because interbank activity for SGD SIBOR has been drastically reduced as banks have all but stopped much of the outright lending and borrowing business since Lehman days. Much funding is done via fx forwards, swapping SGD for USD or vice versa, ie. via SOR, which diminishes the role of SGD SIBOR.

I am not about to begin a history lesson on SOR except that many moons ago, money market trainees were taught that SOR = Sibor plus cost of funds*. There is none of that notion now and more than half the market is ignorant of that concept. No one knows the origin or purpose of SOR these days except that it is the forwards derived rate.
*Cost of funds has also much to do with the liquid reserves that MAS requires banks to keep for regulatory purposes.

SIBOR should theoretically be lower than SOR then. Yet because of its limited use and the elimination of the use of SIBID completely, SIBOR has been consistently higher than SOR. That is perhaps because SIBOR’s only use these days is for loan fixings ?  https://tradehaven.net/market/sibor-bullies/

Enough rambling and back to the SIBOR home loan.

Let us assume that SIBOR does exist and is not an arbitrary number banks pluck out of the air for home loan or any SIBOR loan fixings.

I would expect the laws of demand and supply would compel SIBOR to trend with SOR.

The following is the SOR projections I did based off the curve a couple of days ago.

3M SOR AND LIBOR

The best thing to do would be to hold out as long as the fixed rate promotions last and take a fixed rate mortgage on the very last day. There will be plenty of signs along the way in the form of hints and propaganda in the press for higher rates etc.

Will try my best to keep you posted.