Why Singapore Interest Rates Might Rise Faster than Expected

Beginning this year, a friend asked me what I thought about interest rates. My reply was it should not exceed 1% this year and 2% next year. Of course, I was referring to the US federal fund rate instead of Singapore housing loan rates. Still, when the Singapore Interbank Offered Rate (SIBOR) shot up to 1% in Mar, I was quite surprised. Now, I think I know the reason why.

Before explaining the reason, let us first understand the basics of Singapore housing loan rates. There are 2 ways of getting a SGD loan. The first and most straightforward way is to borrow in SGD and repay in SGD. This is the basis for SIBOR loans. The bank that loans you the money will borrow from other local banks at the SIBOR rate and loan you the money with a spread above SIBOR, e.g. SIBOR + 0.75%. The alternative way is to borrow in a foreign currency, say, USD and convert it into SGD. When the loan is due, convert the repayment from SGD into USD and settle the loan which is actually denominated in USD. This is the basis for Swap Offer Rate (SOR) loans. The bank that loans you the money will do the borrowing in USD and conversion into SGD (and the reverse path) for you, so you will only see the middle portion in which you borrow from and repay to the bank in SGD. As there is conversion between currencies, there is forex risk involved in such loans. If USD were to rise against SGD when the loan is due, more SGD is needed to repay the USD-denominated loan. The bank will hedge this currency risk at the point of initiating the USD-denominated loan by buying USD in advance through a currency forward. The cost of converting between the currencies is included into the interest rate known as SOR. Thus, SOR includes the USD interest rate and a currency factor. The general formula for computing SOR is as follow:

The precise formula for computing SOR, which takes into account different loan tenures, by the Association of Banks in Singapore can be found in this link.

Usually, the tenure of the USD-denominated loan is a short one, ranging from 1 month to 6 months. At the end of the loan tenure, the bank will repay the original loan and initiate a new loan at new interest rate and new currency forward rate, so the roll-over is transparent to borrowers. The term 1-/ 3- /6-month SOR refers to the tenure of the USD-denominated loan and reflects how frequently the SOR will vary. Generally, the SOR for longer tenure will be higher than that for shorter tenure, to reflect the greater uncertainty in credit risks and forex rates. Also, since forex rates are volatile, SOR tends to be more volatile than SIBOR and the shorter the tenure, the more volatile is the SOR.

While it appears that SIBOR is not affected by forex rates, capital flows freely in and out of Singapore. Just as a Singapore borrower can borrow money in USD, a US borrower can also borrow money in SGD at SIBOR-pegged rate and convert to USD if SIBOR is much lower than SOR. Eventually, both SIBOR and SOR must converge for capital flows to be in equilibrium. Thus, both SIBOR and SOR will move in tandem with each other.

Having understood the workings of SIBOR and SOR, we can go on and discuss the recent movement of SIBOR and SOR. Since SOR is directly affected by forex rates, a rising USD against SGD will lead to higher SOR (and SIBOR). The figure below shows the movement of USD against SGD (orange line) since mid last year. 

USD Movement against SGD (orange line)

As shown in the figure, USD has risen by nearly 7% against SGD, with a small spike in Mar. This coincided with the spike in SOR and SIBOR in Mar. USD has since retreated slightly, which is again reflected in the slightly lower SOR and SIBOR after Mar. See the figure below from HousingLoanSG.com on SOR and SIBOR movements.

SIBOR/SOR Rate Movements

Moving forward, USD is likely to keep on rising against major international currencies as discussed in Getting Ready for US Interest Rate Rises. On the other hand, SGD cannot rise too much against regional currencies to avoid losing competitiveness. This means that SIBOR and SOR are likely to rise faster than the US federal funds rate. Add on to the fact that the federal funds rate is likely to start increasing in Sep or Dec, it can only mean that SIBOR and SOR will rise further.

See related blog posts:

• Getting Ready for US Interest Rate Rises
• Behind Fixed Deposit Home Loan Rates
• How To Select a Housing Loan Package

Getting Ready for US Interest Rate Rises

After talking about it for 2 years, the US Federal Reserves (Fed) is finally about to raise interest rates. For a good part of these 2 years, I had not been too concerned about interest rate rises and was happy to pick up REITs beaten down by interest rate worries. It was 2 weeks ago that I realised that while interest rate rises were not too worrisome, things do not work in isolation. Here are my thoughts and actions taken in response to interest rate rises and their secondary effects.

Wave 1: US Interest Rate Rises

As mentioned, interest rate rises should not be too worrisome. My guess is that US interest rate should not rise to more than 0.75% by the end of this year and 2% by the end of next year. By pre-Global Financial Crisis standards, 2% interest rate is considered very low. Thus, I am not too concerned over the increased interest that stocks and REITs have to pay on their debt obligations.

Wave 2: US Dollar Rises

When US interest rate rises, US Dollar will become more attractive and rise as well. In fact, this has already happened. Since the middle of last year, US Dollar has started to rise against Singapore Dollar, Euro and Yen. The rise is approximately 7% against SGD and 20% against both EUR and JPY.

USD Movement Against SGD, EUR & JPY

Considering that Japan is in the middle of its Quantitative Easing (QE) at a rate of 80 trillion yen (equivalent to USD650 billion) per year and Europe has just started its QE in Mar this year for a total of EUR1.1 trillion, it suggests that USD will continue to rise. Essentially, the more money that Europe and Japan inject into their respective economies, the more money is available to invest in US assets. Both the World Bank and International Monetary Fund (IMF) have in recent weeks advised US Fed to defer its interest rate rises until next year. Should USD continue to rise due to interest rate increases, it would hurt the competitiveness of US manufacturers and might force Fed to reverse course and lower interest rates again.

Among the regional currencies, SGD is usually the strongest. Against USD, Malaysian Ringgit (MYR) has fallen by 16% and Indonesian Rupiah (IDR) has fallen by 11% since a year ago, as shown in the figure below.

USD Movement Against SGD, MYR & IDR

The effects of the above foreign exchange movements mean that companies that earn revenue in USD will benefit, while those that earn revenue in EUR, JPY, MYR and IDR will suffer. Among the stocks in my portfolio as at end May, LippoMalls earn its revenue in IDR while its debts are denominated in SGD. Metro also has retail operations in Indonesia. Both were sold in early Jun. For more details on LippoMalls, you can refer to A Tale of 2 Indonesian REITs.

The strengthening of SGD against regional currencies also means that it has become more expensive to visit Singapore for holidays, leading to lower revenue for hotel business trusts such as CDLHTrust, FarEastHTrust and OUEHT. All 3 were sold in early Jun.

There is another stock that is based in Indonesia, namely First Resources. However, it earns its revenue in USD, so there is not much concern. It is possible to understand the impact of foreign exchange movements on companies' earnings by referring to their annual reports. There is usually a section that discusses the impact to earnings and equity if the major currencies that the company is exposed to rise or fall by a certain percentage.

Wave 3: US Dollar-Denominated Assets Fall

When USD rises, assets that are denominated in USD tend to fall. Such assets include gold and oil. As at end May, I have about 8 oil-related stocks in my portfolio, such as BakerTech, CH Offshore, ChinaAvOil, CSE Global, Keppel Corp, MTQ, PEC and Rotary. None of them will be sold for 2 reasons. Firstly, oil prices had already fallen by almost half since the middle last year! Going forward, it is unlikely that oil price will fall by a similar extent even if USD were to rise further. Secondly and more importantly, none of these 8 stocks carry a lot of debt. The highest debt/equity ratio among the 8 stocks is 50%. Hence, no massive rights issues are expected from these 8 stocks going forward.

I also have Lyxor Commodity that has exposure to both gold and oil. But it is sitting on paper losses and I gave up hope on this stock (for now).

Wave 4: Stock Market Volatility Rises

With so many effects happening, the stock market may become more volatile. Even if a company has very little debt, foreign currencies and exposure to gold and oil, its stock price may still fall in tandem with the general market. While there are trailing stops to protect the paper gains on some of the stocks, I generally do not expect many stocks to be sold on this ground. The key reason is as long-term investors, we should be more concerned over the economics of the company rather than the short-term volatility of the stock price. A company can lose money if it has a lot of debt, foreign currencies and/or exposure to gold and oil, but it cannot lose money because the stock market is volatile (unless it is a financial company). Hence, not many stocks will be sold on this ground. On the contrary, I will be waiting at the sidelines to pick up good-quality stocks if they were to be beaten down.

On the Passive Side

There are a lot of things happening on the active side of investments. However, on the passive side, all the above effects can be considered as noise. It is business-as-usual for passive investment strategies like Dollar Cost Averaging and portfolio re-balancing. They have in-built defence mechanisms to handle any volatility in the stock market. You may wish to refer to The Anti-Fragile Portfolios for more info.

See related blog posts:

• Why Singapore Interest Rates Might Rise Faster than Expected
• A Jittery September
• Interest Rate Hedging Smoke Screen

Increase Your Experiential Wealth This Weekend!

As you know, the South East Asian (SEA) Games are upon us this week. What do the SEA Games have to do with finance? Other than the fact that the tickets to some events cost money, almost nothing! Nevertheless, didn't we just discussed a few weeks ago about early retirement, where you could sleep a little later and engage in your favourite past-times? Well, catching the SEA Games live is also a form of living out your retirement lifestyle!

The first game I caught live was the men's individual squash final on Wednesday night. To be honest, it was the first squash game I had ever watched in my life. I knew nothing about the game before and after it. Nevertheless, that did not stop me from enjoying the game, watching the players running all over the court to return the serve, cheering the players for recovering a difficult ball and applauding them for playing a long-drawn rally. The atmosphere was simply fantastic, with everybody cheering and moaning at the same time. My conclusion to my colleagues after watching the game was: I felt younger :) So, I will be back this weekend catching the other games live, and I encourage you to do the same. The last time the Games were held in Singapore was 22 years ago, and it could be another 20 years before we host the games again.

Many a times, we spend a lot of time working over-time and analysing our investments, so that we could one day gather sufficient material wealth to retire comfortably. In doing so, we often neglect our family, friends, health and events happening around us. These are other forms of wealth, and they are more lasting and enriching than material wealth. Think about your last trip to a so-and-so country, are you filled with fond memories about the place, the food and the people? Now think about your last purchase of a so-and-so product, do you feel the same excitement as you first had when you held the product in your hands for the first time? Best of all, non-material wealth do not cost much to acquire. Our lives are made much richer with them!

See related blog posts:

• The Philosophy of Spending Money
• Concluding Post on Early Retirement

My Considerations on Eldershield

Oops. I have become an "elderly" at age 40! That is according to the Eldershield insurance scheme, which automatically covers all Singaporeans and Permanent Residents from age 40 onwards if you do not opt-out. Just to introduce what is Eldershield, it is a disability insurance scheme which provides a monthly payout of $400 for a total of 72 months if you are unable to carry out any 3 of 6 daily activities, such as washing, dressing, feeding, toileting, mobility and transferring. The annual premium depends on the age of entry into the scheme. Since the scheme has been in place since 2002, most people would join the scheme at the age of 40. The annual premium is currently $174.96 for males and $217.76 for females, payable until the age of 65. The benefits would be payable at any time during the life-time of the Insured (for a maximum of 72 months).

When it comes to assessing insurance needs, the key questions to ask are: what are the risks, and can you afford to bear them? In other words, what is the probably of the risk event happening, and if it happens, what is the financial impact? If the risks are bearable, then there is no real need to buy the insurance and transfer the risks away. In the case of Eldershield, the maths are rather simple. The total premium payable is $174.96 x 25 years, or $4,374 (for males), while the total benefits work out to be $400 x 72 months, or $28,800. The benefits are actually not a lot, and should be bearable, i.e. I do not really need the insurance. Still, I took 2 months to ponder whether to join the scheme or not. This is because, underlying the statement "I do not really need the insurance" is an important caveat that I retain full control over my finances when I am in old age. If I were to become senile and lose mental capability, then even funding $400 per month can become a problem. The alternative is to pass over control of my finances to a trusted family member, but I am currently still single, so this option is not available currently.

When you or your trusted ones are not in control of your finances, there are actually additional risks, especially if you have built up a comfortable nest egg for retirement. For example, some other people with ulterior motives could come in and take control of your finances. Just imagine, you have worked, saved and invested diligently for 20 to 30 years to build up a comfortable nest egg only to see it go to someone who do not have your interests at heart. That is quite unacceptable, isn't it?

The best solution is, of course, to keep your body and mind healthy so that you are in full control of everything. The next best solution is to have a family which you can count on to take care of you when you are no longer as healthy. The last resort is to convert your lump-sum nest egg into a recurrent stream of income, i.e. use part of your nest egg to buy an annuity that pays a monthly income. That way, you would not have a large lump-sum nest egg that attracts undesirable interest and you can be assured of having sufficient recurrent income to pay for your daily expenses.

With this, you can probably guess what I would do with CPF Life when the time comes. Although Eldershield does not come close to being an annuity, the regular payouts are consistent with the above-mentioned strategy of creating recurrent income streams. So, to conclude, I signed up for Eldershield.

See related blog posts:

• How Much Does One's Financial Independence Depend on One's Health?
• Preference for Regular Payout Insurance
• There is Really a Regular-Payout Term Insurance

Concluding Post on Early Retirement

I first blogged about early retirement about a month ago. Perhaps because it is a topic that is seldom explored, the insights on the topic has been tremendous. It is worthwhile to summarise in one post all the insights on the topic.

Is Your Financial Freedom Conditional? 

If you are thinking of early retirement, it is probably because you have or about to achieve financial freedom from your job. You probably have a regular stream of passive income from your dividends and/or rental income to cover all your expenses. However, as explored in Can You Count on REITs for Retirement? and How Much Does One's Financial Independence Depend on One's Health?, is this financial freedom conditional upon things remaining the same as they are today? What happens if the economy goes into a recession, possibly bring asset prices, dividends, interest rates and currencies down along with it? There might even be massive rights issues on your stocks or REITs as happened during the Global Financial Crisis in 2008/09. Would your passive income still be sufficient to cover all your expenses and allow you to continue your early retirement? If you have to emerge temporarily from retirement to tide through such difficult periods, it should be noted that it might not be so easy to find a job during recessions, especially if you are out of the job market for a prolonged period of time. 

On the expenses side of the equation, will there be unexpected large expenses later down the road that could not be covered by your passive income, such as overseas education for your children and/or medical costs for your close ones? All these unexpected expenses may cause disruptions to your retirement and it is best to have sufficient buffer in your passive income before you embark on early retirement.

Retirement is only the Beginning of the End

The common perception is that retirement is a destination that you reach after working, saving and investing diligently for 20 to 30 years. After retirement, you just need to enjoy life using savings from your retirement nest-egg. However, retirement is only the beginning of the end of the financial journey. As discussed in The Great Retirement Challenge, there are still 20 to 30 years of retirement spending to be managed. It is like you spend all your life since you started working climbing up a mountain and finally reaching the peak, only to realise that you still have to climb down that mountain! And the down-hill path is even more treacherous than the up-hill path. Any mistakes on the down-hill path could be difficult to recover because you no longer have time and labour capital on your side.

The most ironic part is the tools that you have for accumulating the retirement nest-egg on the up-hill path (i.e. dollar cost averaging and portfolio re-balancing) have become the obstacles on the down-hill path! When I first understood the beauty of dollar cost averaging and portfolio re-balancing, I thought that there is finally a free lunch for investors. It turns out that there is really no such thing as a free lunch. If you look high and low for the bill and still could not find it, it is because the bill has not yet arrived! So, while the lunch is still free, you might want to enjoy the free lunch and defer the bill for as long as possible!

Retirement is a Mindset

If all the above discussion sounds demoralising, you may wish to note that retirement is a mindset. If the work you do everyday is something that you are passionate about, there is no need to talk about retirement. Everyday would be a day of fulfilment of your passion, and there would always be something still unfinished at the end of the day that motivates you to continue and finish it the following day.

Finally, you may have heard the story about a rich CEO who works very hard for many years so that he could one day relax and engage in his favourite past-times versus the poor fisherman who has no assets to his name but could also do the same after fishing for a few hours in the morning. Who says that you need to have $1 million or more to retire comfortably? If you have to work for a few hours each day, but gets to enjoy the rest of the day, is it not retirement too?

See related blog posts:

• Retiring at 40
• Thoughts on Early Retirement – A Year On
• Early Retirement Maybe A Luxury That I Cannot Afford

OCBC360 vs UOB One: The Verdict

I hope the web calculator that I put up last week has been useful in helping readers to decide whether the OCBC360 or UOB One account is better for them. I have since enhanced the web calculator to include credit card rebates. However, the focus of today's blog post is not on the web calculators, but on the guidelines and charts to assist readers to understand better the scenarios in which either of the accounts is better.

If you have played with the web calculator, you would realise that while the calculator can tell you precisely which account is better for a certain scenario, it does not tell you under which scenarios would one account be better than the other. Furthermore, the amount of money that you can have in the account is not static; it varies over a range depending on cashflows. Depending on the amount of money that you have in the account, one account might pay better for certain account balances while the other account might pay better for other account balances even if all other parameters remain the same. This is where guidelines and charts can provide better clarity than web calculators.

To recap, there are 4 parameters affecting the interest rate than the banks will pay on the account. These are:

1. Credit your salary of at least $2,000
2. Pay at least 3 bills through GIRO
3. Spend at least $500 on credit cards
4. Invest or insure through the bank

On top of that, there are different interest rates for different tiers of account balances. In total, there are 5 tiers, namely $10,000, $30,000, $50,000, $60,000 and above. Please refer to OCBC360 vs UOB One: The Calculator for the interest rate payable for the different parameters and account balance tiers. Due to the numerous possible permutations, it is difficult to tell which account pays better. The figure below shows at one glance the effective interest rate for the different parameters and account balances.

Effective Interest Rate for Different Banking Activities & Savings

The column for "OCBC" shows the interest rate for the various parameters for account balances up to $60,000. The columns for "UOB" show the effective interest rate for the various parameters and account balances up to $60,000. As an example, if you satisfy all the parameters and have $40,000 in the account, UOB will pay an effective interest rate of 2.21% on the $40,000 balance.

For every cell in the "UOB" columns, they are shaded either in red, yellow or blue. The colours show whether OCBC pays better (red), UOB pays better (blue) or equal (yellow) for that scenario. Thus, for rows that have a single colour across all columns, it means that one bank pays consistently better for all account balances and you can safely deposit your money with it. For rows that change in colour, you need to be more precise to know which account pays better. For example, in the row "Yes/ No/ Yes/ No", OCBC pays better for balances less than $20,000 while UOB pays better for balances more than $20,000. If your balances fluctuate around $20,000, then no single account stands out and either account will be suitable for you. For a precise computation of the interest rate payable by both accounts, please refer to the web calculator: The OCBC360 or UOB One Calculator (Basic).

Thus, OCBC pays better for most of the scenarios while UOB pays better in a few specific scenarios. Let us hope that UOB will enhance its offerings to catch up with OCBC!

Moving on to the enhanced web calculator as mentioned earlier, it takes into account credit card rebates offered by specific credit cards for a more comprehensive understanding on which bank (savings and credit card) pays better. For OCBC, the Frank credit card which pays 6% rebate for online spending is assumed in the computation. For UOB, it is the UOB One card which pays up to 3.33% in rebates. While the enhanced web calculator provides a more comprehensive analysis than the basic one, there are more rules and conditions to be satisfied. Readers are advised to read the terms and conditions of the 2 credit cards to understand when rebates are payable:

• OCBC Frank Credit Card: http://www.frankbyocbc.com/products/cards/credit-card/
• UOB One Card: http://www.uob.com.sg/personal/cards/credit/uob_one_card.html

The enhanced web calculator is accessible here: The OCBC360 or UOB One Calculator (Advanced).


See related blog posts:

• OCBC360 vs UOB One: The Calculator
• The OCBC360 or UOB One Calculator (Basic)
• The OCBC360 or UOB One Calculator (Advanced)

OCBC360 vs UOB One: The Calculator

One of the shortcomings of a blog is that the information shown is static, meaning that while we could discuss guidelines and present charts, these guidelines and charts might not quite apply to everybody's situation. A case in point is the question whether the OCBC360 or UOB One account pays better. Depending on your situation, either one could be better, but guidelines and charts do not quite reflect your situation accurately. Hence, this blog post is a proof-of-concept to create a dynamic web calculator that takes in your input and compute which account is better for you. Having said that, guidelines and charts are still useful in discussing overall situation and dynamic calculators serve as a complement to guidelines and charts.

Interest Rates

First, an introduction of the 2 accounts. Basically, both OCBC360 and UOB One accounts offer higher interest rates if you are able to broaden your banking relationship with them, i.e. if you can credit your salary, pay bills through GIRO, use their credit cards and invest or insure with them, they will offer a higher interest rate on your savings, up to a certain threshold. The details of the 2 accounts are as follow.

Interest Rates of OCBC360 Account

Interest Rates of UOB One Account

However, both accounts differ in the amount of additional interest rates payable for each type of banking activity and for each level of savings. Due to the numerous possible permutations, it is difficult to tell at first hand which account pays better.

Web Calculator

To assist you in computing which account pays better in your situation, I have come up with a basic web calculator. You can access The OCBC360 or UOB One Calculator here.

See related blog posts:

• OCBC360 vs UOB One: The Verdict
• The OCBC360 or UOB One Calculator (Basic)
• The OCBC360 or UOB One Calculator (Advanced)