Homebuyers should take note if Hong Kong’s dollar balance dips below HK$100 billion. Here’s why
With several indicators suggesting Hong Kong dollar liquidity is becoming tighter, banks’ higher borrowing costs could translate into higher mortgage repayments for homeowners
The Hong Kong Monetary Authority, the city’s de facto central bank, has spent HK$70.35 billion (US$6.5 billion) in the past five weeks out of its US$440 billion in foreign reserves to defend the local currency against hedge funds and short sellers.
What is the link between the HKMA’s intervention and the city’s aggregate balance
When the Hong Kong dollar falls to the weaker end of its peg to the US dollar, at 7.85 per dollar, the HKMA will buy Hong Kong dollars from commercial lenders and sell US dollars to support the local currency. The sale of Hong Kong dollars by commercial lenders will reduce their aggregate balance, or banks’ excess funds held in clearing accounts with the HKMA.
As such, the aggregate balance is also a measure of interbank liquidity, which shows the availability of funds for lending between banks. It is part of Hong Kong’s monetary base, in addition to the coins and notes in circulation and exchange funded bills.
Since April, when the HKMA started its intervention, the aggregate balance has fallen by 40 per cent to HK$109 billion.
Should mortgage holders take note of the aggregate balance’s psychologically important HK$100 billion mark?
Before the 2007-2008 Global Financial Crisis, Hong Kong’s aggregate balance had been as low as an average of about HK$5 billion, indicating that it could fall much further from its current level. But many analysts believe that the aggregate balance level falling below HK$100 billion would mean that Hong Kong interest rates will become more sensitive and rise more sharply because of drains in liquidity.
How does the aggregate balance reflect tightened liquidity and lead to an interest rate rise trend?
Higher borrowing costs will translate to higher mortgage repayments for homeowners, while other debtors might also need to roll over old debt into higher interest rates that will add on new loans.
Indeed, with the approach of the psychologically critical HK$100 billion level, there are several market indicators suggesting that Hong Kong dollar liquidity is becoming tighter compared with before, and is pushing up banks’ funding costs.
A number of banks have started to raise term deposit rates. Meanwhile, the three-month Hong Kong interbank offered rate (Hibor) is up 45 basis points this year to 1.75 per cent. Banks expect higher funding costs in the coming months.
Despite this, it seems Hong Kong dollar liquidity remains supportive for now. Demand deposit rates, the one-month Hibor rate and other shorter tenors remain relatively anchored. The one-month Hibor is actually down 20 basis points this year, to 0.99 per cent.
How do higher bank borrowing costs translate to mortgage rates in Hong Kong?
Most property loans in Hong Kong have been either linked to Hibor rates, or to prime rates, which are set by banks. The city’s biggest lenders, such as HSBC, Bank of China (Hong Kong) and Hang Seng Bank, have a prime rate of 5 per cent. Standard Chartered and Bank of East Asia set their prime rate at 5.25 per cent.
Mortgage holders typically have two options, whichever pays a lower rate: either Hibor plus a percentage (the best advertised rates are normally 1.3 per cent), or 0.99 per cent + 1.3 per cent = 2.29 per cent; or prime minus a percentage (the best advertised rates are around 2.85 per cent, or 3.1 per cent, depending on which prime rate a bank uses), or 5.25 - 3.1 =2.15 per cent.
With option 1 exceeding option 2 in the above calculation, mortgage loans are increasingly being shifted from Hibor to prime rate-based payment schemes. This will have the effect of constraining bank margins, especially given the outlook of further rises in banks’ funding costs in Hibor rates and deposit term rates. And banks are increasingly coming under pressure to raise their prime rates.
“The fact that Hibor and term deposit rates are rising shows your average cost of funds is going up. If the Hong Kong dollar continues to be pressured, there is justification for banks to raise the prime rate,” said Frances Cheung, head of macro strategy, Asia, at Westpac Banking Corporation.