Definition
Adjustable Rate Mortgage
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Adjustable rate mortgages (ARM) refer to housing loans in which lenders can change the interest rate to be charged to the borrower.
This is as opposed to fixed rate mortgages (FRM) where the interest rate is fixed for the life of the loan.
However, fixed rate loans in Singapore are not structured the way it is understood in many parts of the world because they don’t come with fixed interest rates throughout the life of the loan.
ARM or FRM?
There are basically two categories of housing loans that banks offer in Singapore.
- Fixed rate
- Floating rate
However, to call the first type of home loan fixed rate mortgages are misleading. It is like calling a cable TV subscription that comes with the first month free a free subscription.
And it is surprising that the authorities have allowed this practice of false advertising to carry on for so many years.
Fixed rate mortgages actually refer to home loans that have a fixed interest rate throughout the entire life of the loan.
In the US for example, this is exactly what fixed rate mortgages mean.
Whereas, there is no such thing in Singapore. All “fixed rate” home loans only have a fixed rate for a certain number of years during initial years of the loan. After which, it reverts to a floating rate loan with interest rates that move with the market indices.
This means that fixed rate loans in Singapore are actually adjustable rate mortgages (ARM). So are floating rate loans.
Meaning the bulk of all (if not all) home loans offered by banks in Singapore are by definition adjustable rate mortgages.
The interest rate of ARMs, other than the periods of fixed interest, is determined by adding a spread (or margin) to the index that makes up the other component of the loan.
Some of the common indices used in Singapore mortgages include:
For example, if SIBOR is 1% and the spread is 0.75%, then the interest on the housing loan that the borrower would pay would be 1% + 0.75% = 1.75%. This is the fully indexed rate.
As the index fluctuates throughout the year, the interest on the mortgage changes along with it.
ARMs are most suitable for borrowers who expect market indices to fall in the near future. This is so that they can take advantage of falling rates.
Those who like more flexibility would also prefer the types of housing loans that don’t have a lock-in period.
This allows them to switch lenders to refinance their mortgages with other lenders who are offering more competitive packages without incurring penalty fees for early redemption.
Since 2008, the history of Singapore home loan interest rates indicate that borrower who have taken up floating rate loans have ended up better off than those who have taken up fixed rate loans.
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