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Looming Policy Risk amid negative interest rate environment

Asian real estate: curing the vertigo 

With interest rates staying low, the HK and S'pore governments may have to plan yet more cooling measures

(Extracted from Business Time on reports from Bloomberg Barclays)

AMID the uncertainties that have clouded the global economy in recent years, one of the more certain things has been the continued presence of low interest rates. 

Major central banks, in their attempt to reflate their economies and secure more sustainable growth, have resorted to easy monetary policy - first by bringing short-term policy rates lower, and then by asset-purchase programmes designed to push down longer-term yields. 

The US Federal Reserve's policy course has the most influence on Asian interest rates, especially those of Hong Kong and Singapore. 

In terms of Hong Kong, the four-decade-long peg of the HK dollar (HKD) to the US dollar (USD) necessitates a close tracking of domestic interest rates with the American ones. Similarly, given that the Singapore dollar is pegged to a basket of currencies, which likely includes a significant proportion of USD, the movement of US interest rates continues to heavily influence Singapore's rates too. For instance, the three-month SIBOR rate - which is often used as the reference for floating rate mortgages in Singapore - fell from an average of 1.3 per cent in 2008 to the recent level of around 0.4 per cent. 

While interest rates in Hong Kong and Singapore stay at rock bottom, there is a divergence since these Asian economies have performed a lot more robustly than the US. In the case of Hong Kong, its economy has stayed relatively resilient, owing to its close interaction with China. 

The fact that interest rates have stayed low despite resilient economic growth has been the main driver of the recent boom in these economies' property markets.

While house prices dipped in the immediate aftermath of the Lehman Brothers collapse, the pace of recovery has been rapid. In fact, since the start of 2009, Hong Kong residential prices have more than doubled. During the same period, Singapore's house prices have risen by a relatively less breathtaking, but nonetheless lofty, 50 per cent.

As early as 2009 - not long after property prices started to inch up from post-Lehman lows - authorities in both countries had begun to adopt a series of tightening measures. 

Despite the long list of measures, the reality is that house prices continued to rise across both locales, calling into question how effective these cooling measures have been. 

To some extent, these measures may have unintended consequences that work against the intention of limiting price gains. For example, while they may be effective in preventing investors from purchasing more properties now, they have also given them little incentive to sell, therefore, limiting the supply of available units. 

Tellingly, the number of property transactions in Singapore came down significantly, dropping by 65 per cent month-on-month, to a 14-month low in February, after the latest (and harshest) round of cooling measures. There is, however, little sign that prices are coming down. 

Given that the authorities still appear keen to avert the relentless rise in property prices, there is a strong likelihood that more cooling measures may be adopted.

Looking at the nature of how the measures have evolved over the past few years, any new policies would probably be targeted at disincentivising property investors, in the name of helping first-time buyers with genuine demand. In particular, measures aimed at limiting property purchases by foreigners might be deemed necessary. 

Moreover, it is increasingly possible that the authorities will take a closer look at the holding power of property owners. Interestingly, in its latest Budget, the Singapore government scrapped the property tax refund scheme for vacant homes. In addition, the marginal tax rates for these investment properties will also be increased, from a flat rate of 10 per cent, to a progressive scheme with marginal tax rates of 12-20 per cent. 

On top of that, changes to the mortgage rates may be in the pipeline. Even though we do not expect the US Fed Funds target rate to head up in the next two years - hence there is little likelihood of a marked increase in base rates for Hong Kong and Singapore - there are increasing signs that the era of extraordinarily low mortgage rates may be behind us. 

In the case of Singapore, even though the SIBOR floating rate on which most home loans are based has remained low, the additional margins that banks charge appear to have started to nudge up. According to Barclays Research, this is, in part, due to tighter systems liquidity, with Singapore's aggregate loan-to-deposit ratio standing at 97 per cent - its highest level since 1999. Moreover, it argues that there is a possibility that the Monetary Authority of Singapore (MAS) may introduce a risk-weighting floor, which could essentially limit the availability of housing credit in the overall system. 

Such measures have indeed been adopted earlier by its counterpart. In February, the Hong Kong Monetary Authority (HKMA) increased the risk- weighting floor on new mortgages to 15 per cent (from 10 per cent previously). As a result, banks must make additional provision of 50 per cent capital on new housing loans compared to before, raising the cost of housing loans for them. Since then, some banks have felt the need to compensate it with an increase in their mortgage rates to borrowers. For example, on March 14, Standard Chartered and HSBC announced that their mortgage rates will be raised by 25 basis points, for example. 

All in all, it remains to be seen whether the renewed effort to dampen the property market - such as coaxing banks to increase mortgage rates - will have any sustainable effect. In the case of Hong Kong, for instance, prices did drop a sizeable 6.5 per cent after banks raised their home loan charges six times in 2011. However they soon resumed their upward trajectory. 

In the near term, it appears that the most likely scenario will be for prices to hold, but for the number of transactions to fall at the same time. The latest transaction numbers for Singapore showed that home sales dropped to 708 units in February, from more than 2,000 in January, taking in the impact of the seventh - and in many ways the harshest - round of cooling measures. 

As mentioned earlier, the fact that the holding power of property investors remains strong works against the authorities' attempts to curb the price uptick, and that remains a function of ample global liquidity and still-low domestic interest rates at the end of the day. 

Given that the Fed does not appear to be in any hurry to take the monetary stimulus off the table - in order to secure growth in the US - it is likely that the Hong Kong and Singapore governments may have to plan for yet more cooling measures still. 

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