We are entering into an era of unprecedented interest rate hikes from the Fed. And many are concerned about how this unwinding of quantitative easing and interest rates will affect the global economy. The truth is, nobody really knows how this is going to unfold because we have not seen such an unprecedented hike from the Fed in decades.
More importantly, how is it going to impact homebuyers and affect the cost of financing?
1. Swift Collapse Of Silicon Valley Bank Within 36 Hours After Bank Run
We have witnessed one of the knock-on effects of unwinding from the Fed through the collapse of the Silicon Valley Bank. Whether it's also the result of poor risk management at best, or the inevitable result of lowered requirements (we'll speak more about this below) remains to be seen. Prior to its collapse, Silicon Valley Bank (SVB) was the 16th largest bank in the US with more than US$200 billion in assets. However, it swiftly collapsed within just 36 hours when it was met with a bank run.
The failure of SVB was the largest since the Global Financial Crisis in 2008. If one could recall, the failure of Lehmann Brothers created a contagion effect that led to exposure of the whole banking system in the US.
Many consumers who had banked with SVB were queuing up overnight at the branches to withdraw as much money as they could prior to SVB’s collapse.
Impact On Homebuyers: While homebuyers in Singapore won’t have to worry about queuing up at SVB to withdraw their deposit, the worry is really much bigger than expected. Will the collapse of SVB end up in creating a domino effect on the rest of US banks, such as the closure of Signature Bank, and even beyond US shores as evidenced by the rescue of Credit Suisse? Will that end up causing a recession? And if that recession does come around, it could mean a loss of jobs in Singapore — affecting anyone’s ability to repay your bank loan.
2. First Republic Bank’s Meltdown Triggering Rescue Packages From US Banks
Another bank that was all in the news after SVB’s fall was First Republic Bank. First Republic Bank, also headquartered in San Francisco, was bigger than SVB.
Unlike SVB which serves primarily Silicon Valley customers, First Republic Bank was a midsize bank catering to wealthy clients in coastal states — and had a lot of high net worth individuals banking with them.
Within 48 hours, First Republic Bank’s peers (read: rivals) had to infuse cash into the bank to bolster its share price. That meant that 11 banks of the likes of JP Morgan to Bank of America, and alongside nine other banks had to infuse US$30 billion cash into First Republic.
But the desired effect of boosting consumer confidence wasn’t achieved. First Republic Bank’s share price continued to tumble, and expectations that First Republic Bank will go under are nigh.
Impact On Homebuyers: Similar to SVB’s collapse, First Republic Bank may be geographically far from Singapore to have an impact. But let’s not forget that the financial system is very intertwined as are the global economies. The fall of any banking system as large as the US is going to create waves on the rest of the world.
3. Reserving Requirements Under Dodd-Frank Act Amended While President Donald Trump Was In Office
The Dodd-Frank Act was created in 2010 to prevent the excessive risk-taking that led to the Global Financial Crisis. One of the components of the Dodd-Frank Act was that banks had to keep a portion of its deposits as liquid assets (e.g. cash, money market assets), so that in the event of a bank run, banks can still manage the business as usual (BAU).
However, in 2018, a bipartisan bill was passed which amended these requirements, and many smaller US banks were given more freedom to invest the cash that depositors had banked with them. Some have pointed to this rollback of the requirements as the cause of the situations at SVB and First Republic Bank where the C-suites made the wrong calls when investing in longer term assets that had low yields.
Impact On Homebuyers: The biggest impact for homebuyers will come from the Fed’s reaction to the series of hard hits on US banks after the Fed raised its interest rates.
The Fed is starting to take a closer look at how their interest rate policy may potentially lead to the demise of the US banking system. It isn’t going to be as straightforward as “let’s raise interest rates to weed out inflation because the economy is going strong”. Instead, the Fed probably has to take a more calibrated approach towards unwinding.
The Fed Might Have To Cut Interest Rates Earlier Than Expected
While the Fed is likely to announce a quarter-point interest rate hike later this week, we can expect the reversal of interest rate hikes sooner than later. To put a number to it, the market is now predicting that the Fed's interest rates will drop by as much as 1% by early 2024.
If the Fed decides to cut interest rates, it is going to be good news for homebuyers. Interest rate on floating rate bank loans will go down in tandem with the Fed’s interest rate policy. This means a lower cost of financing for you.
How Should You Think About Home Financing At This Stage?
What happened in the past few weeks has shown that the situation around interest rate hike is very volatile. Expectations are changing very quickly and markets don’t have time to react to it.
If you are planning to refinance or take on a bank loan for your new home, here’s a quick tip for you.
If you foresee the Fed continuing to hike interest rates in the near future, you might want to consider a 1-year lock-in so that you have the option of refinancing again when a year is up. A fixed interest rate bank loan means you won’t be in for any surprise for the period that you are locked-in.
If you think that Fed will be forced to ease its interest rate policies sooner than later, then a floating rate bank loan may serve you better. Should the Fed really decide to cut interest rates this year, the interest rate on your bank loan will likely adjust downwards as well, even if you are still in your lock-in period.
Need More Advice From A Mortgage Consultant?
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