Mortgage refinancing

In December last year Hong Kong banks started raising mortgage rates. Prime linked mortgages were offered at higher margins than had been seen for some time and most (if not all) banks stopped offering HIBOR linked mortgages. Lending criteria were also tightened. At the time I speculated that Hong Kong may have seen the end of cheap mortgages .

In the space of four months I have been proven wrong with several banks again offering HIBOR linked mortgages. The terms are not as good as what was offered during the peak of the mortgage wars in 2005/6, but are still better than some of our existing mortgages.

The best deal I have found so far is from Standard Chartered which is offering what amounts to HIBOR + 0.8%. Importantly, they are offering borrowers the option of fixing using the 1 month HIBOR (or longer if wanted). Given the shape of the yield curve this works out at nearly a whole percentage point below what we are currently paying on our home mortgage and on one of our investment properties (about 1.2% pa).

Running the numbers for refinancing at this level would suggest we could either:

(i) keep the payments at the same level and cut the term of both mortgages by about 18 months for one mortgage and and 21 months for the other;

(ii) keep the term the same and reduce the payments, freeing up the difference for other investments.

Given that I can find plenty of relatively low risk investments with much better yields than the interest payable on the mortgage, (ii) looks the better option. (If I wanted to push this line of thought, I would extend the term to take maximum advantage of the arbitrage opportunity.)

The problem is that there is a mismatch between the exposures to changes in interest rates. The mortgage rates are (very) short term and could increase. In fact, over the term of the mortgage, I would be surprised if we do not have higher interest rates at some point. In contrast, the term of the alternative investments is fixed for longer terms (decades for some long bonds) or carries principal risk (in the case of equities). In addition, rising interest rates often result in lower capital values for both debt and equity investments, meaning that responding to rising interest rates by selling assets to repay the debt is not always an attractive option. Given that I will be carrying these mortgages into retirement, this is not a trivial risk.

That said, there is no downside to doing the refinancing. The only question is the extent to which I wish to trade off a shorter repayment period against improved cash flow.