When it comes to buying your first home, you'll probably have to secure a home loan. Currently, the types of home loans you're probably familiar with are the Fixed and Floating rates. However, as you would have already noticed, there are floating rates like the SIBOR pegged floating rates and the SOR pegged floating rates. In 2020 / 2021, you would have likely learned about the SORA rates as well.
In this post, I'll be deciphering what SIBOR, SOR, and SORA rates are, and what your considerations should be when deciding on the home loan to stick with.
SIBOR, SOR, SORA
SIBOR (Singapore Interbank Offered Rate)
SIBOR is the rate that Singaporean banks can borrow money from each other via the interbank market.
SOR (Swap Offer Rate)
SOR is the cost of borrowing Singapore Dollars (SGD) if you have done so by first borrowing USD and swapping it to SGD via a foreign exchange derivative.
SORA (Singapore Overnight Rate Average)
SORA is the volume-weighted average rate of unsecured, overnight, interbank SGD transactions brokered in Singapore.
"Ok.. so.. When do we use SIBOR?"
Here's an easy way to understand the purpose of SIBOR and how it is used in the banks. First, understand that the global banking system follows a fractional reserve model. This means banks don't actually have 100% of the deposits which bank customers like you and I put in them, since most of the monies are already lent out as loans.
Hang in there buddy, relax. Fret not. This is where SIBOR steps in. If banks face liquidity issues (cash shortage), banks can borrow from another bank at the SIBOR rate.
The SIBOR rate is also used for home loans that you and I are familiar with.
"Ok, well, what about SOR and SORA?"
Let's begin with SOR. SOR is pretty complicated and, as simply as I can describe this, SOR is the cost of borrowing SGD (by borrowing USD to swap to SGD via a foreign exchange derivative). SOR is completely phased out though. From the description of SOR itself, it is quite clear that SOR has a jarring disadvantage due to its USD component, causing SOR to be far more volatile compared to SIBOR. It should be noted that LIBOR, which SOR relies on, will be discontinued by the end of 2021.
Replacement of SOR with SORA In August 2019, the ABS announced that it would gradually shift away from using SOR as a reference rate in all markets. And in March 2020, it was announced that the financial industry broadly supports the move from SOR to SORA—the Singapore Overnight Rate Average—as a new reference rate.
SORA, as described earlier, is the Singapore Overnight Rate Average which is a volume-weighted average rate of unsecured, overnight internank SGD transactions SGD cash market in Singapore.
Three clear advantages of SORA (over SOR) are:
- SORA In August 2019, the ABS announced that it would gradually shift away from using SOR as a reference rate in all markets. And in March 2020, it was announced that the financial industry broadly supports the move from SOR to SORA—the Singapore Overnight Rate Average—as a new reference rate.
- Compounded SORA rates are backward-looking overnight rates, which are considered more stable compared to forward-looking term rates like SOR and SIBOR).
- According to ABS, the transaction-based benchmark is commonly monitored as a reflection of daily conditions in SGD money markets and is underpinned by a deep and liquid overnight funding market, making SORA an ideal alternative to SOR.
"Ok so why does this matter?"
It should be noted that SIBOR, SOR and SORA are reference rates used to determine the final interest cost on floating rate loans. They also serve as a guage for a bank's cost of funds, such that banks can remain profitable (by deteermining and charging a spread on top of that).
Unlike SIBOR, you can ignore SOR when considering home loans since it is being phased out.
SIBOR and SORA
SIBOR is also referenced for billions of financial instruments: from home loans, corporate loans, government bonds and corporate bonds. When you're sourcing for home loans, the SIBOR floating rate would be one of the first few you would encounter. Recently, you would have probably also seen a new floating rate - the SORA home loan rates, like the OCBC 90-Day SORA home loan.
While SORA may be thought of as the interesting new kid in the neighbourhood, it should be noted that SORA has some disadvantages:
- SORA options are, at this point in time, limited.
- SORA rates may appear to be lower at first glance, but its rates are also more volatile.
"Ok, so anything to note about SIBOR then?"
It is important to note that the SIBOR is closely linked it is to the movements of interest rates in the US. Interest rates are slashed whenever there is a financial crisis (e.g the 2008 Financial Crisis, and the recent COVID-19 pandemic). This is a common response to combating an economic recession. As such, SIBOR rates have also fallen due to the slashing of interest rates.
"What about Fixed vs Floating-Rate Home Loans in General?"
So far, I've only introduced floating rates such as SIBOR and SORA floating rate loans. Let's look at floating rate loans in general, compared to fixed rate loans, as this is also an important factor to consider when choosing your home loan.
In a fixed-rate loan,your interest rate is locked for the duration of the loan. This works well for you when interest rates rise (you're paying less than the current interest rate), and vice versa in a low interest rate environment, you'd be stuck paying the fixed rate (which is higher than the interest rate). Doesn't feel all that great.
In a floating rate loan, it is the other way round and not pegged or stuck (i.e "fixed") to one rate.
Ultimately, there is no right or wrong answer to this question. In many cases, such as corporate loans market or even the regular Joe next door with a mortgage he's servicing, it's not uncommon to be routinely choosing between fixed or floating rates or consider refinancing loans at a better rate. All the trouble that they undertake serve one goal: to save them money.
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