Saturday, September 3, 2011

Singapore housing affordability table

Many people in Asia and Singapore are watching rising property prices with great unease and a significant number of them prematurely rushing to buy a property with the fear that the prices will be out of their reach when  they really need a property. Asian property obsession (which has gone crazy and ended badly for Japanese), current zero interest rate, high inflation environment thanks to FED's damaging policies are luring many people into property transaction without much emphasizes on the affordability of the house by the buyer.

Main stream affordability measure is known as the 'debt-to-service ratio' (DSR), defined as the ratio of monthly mortgage payments to monthly household income. But this definition is not complete and misleading. DSR is the ratio of current monthly mortgage payments to current monthly household income. In Singapore, 40 per cent is usually used by banks to decide if the loan is affordable for the buyer. I have underscored the "current" here since this very important dimension is almost always skipped by the bank and buyer. For the person in the bank, it is better for him to skip it since he gets the bonus by selling a loan and as we have seen in the last financial crises he loses nothing if things go wrong. But it is also surprisingly missed by buyers.

This main stream affordability measure of monthly mortgage payment divided by monthly household income is not a good affordability measure at all! First the ratio at the time and in the near future of mortgage start is current and can dramatically increase in the future. For example now, the interest rates are artificially low, which creates artificially low monthly mortgage installments. When they go up in the future (and they can only go up significantly from near zero levels) the ratio will increase and house will become significantly less affordable. Second, buyers are pushed into longer payment periods which reduce the monthly payments and creates an artificial affordability feeling. But longer periods of mortgage payment increases the huge interest you pay over price and eats up more of your savings. The "affordable" monthly payments may actually be "unaffordable" payments subsidized by your life quality and mostly by your retirement savings.

So what to look at? Tilak Abeysinghe and Gu Jiaying from Singapore Center of Applied and Policy Economics offers a better affordability measure: ratio of house price to lifetime income. They take the discounted present value of future mortgage payments as house price and discounted present value of estimated future income stream using the same mortgage rate:

"For Professor Tilak Abeysinghe from the National University of Singapore (NUS) and PhD student Gu Jiaying from the University of Illinois, the DSR used by HDB is only a 'short-run indicator' and the issue of
affordability must viewed with a long-term lens. They point out, for example, that HDB's DSR calculations are
premised on home buyers taking 30-year home loans. Mathematically, the results can differ by simply
lengthening or shortening the loan period. Indeed, during the GE, some opposition candidates argued that a
more reasonable loan period would be 20 years, which could tip the DSR numbers over the acceptable

By using this measure they have created a table which showes Housing Affordability for lower 25%, Middle 50 and Upper 75% income compartments of the Singapore population with different interest rates. You can see the table from here (PDF file): Buying within your means.

With their affordability measure, a 30 years old with relatively high 5,520 SGD per month salary and 118,900 SGD savings should better forget buying a private house since the affordable units for him/her are HDB executive flats and lower. But the article is from August 2010 and the rates were higher at that time. The danger is for a relatively short period of time, the rates came to zero and more expensive houses look affordable now.

Mr. Abeysinghe and Mr. Jiaying also offers a shorter-term measure of affordability. They call this measure housing 'accessibility':

"Accessibility is simply defined by the ratio of the cash a buyer needs to make all the upfront payments for a
new home to his household savings at that point in time. Upfront payments include down payment for a
property and any COV payable for resale HDB flats. Savings includes Central Provident Fund balances.
If the ratio of payments to savings is more than 1, then that type of housing is 'not accessible' to the home
buyer. If it is less than 1, then it is accessible.

The study found that for young buyers of HDB resale flats in the age group of 20 to 29, the main problem
right now - with current property prices - is accessibility, not long-term affordability.

For example, a four-room HDB resale flat in established areas like Bukit Timah is currently inaccessible to
the bottom 30 per cent of income earners. Even two- or three-room HDB resale flats in suburban towns like Yishun and Woodlands are inaccessible to the bottom 20 per cent of income earners."[1]

[1] - Redefining affordability of homes
[2] - Buying within your means

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