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Investor psychology and beating our fears.

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"E-book" by AK

Second "e-book".

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Slaving to stay in a condominium.
(Sanity check in the comments section. Please read.)

Wednesday, January 23, 2013

"House poor is no fun."


Why are you borrowing?

Borrowing money for important things like buying a home may be unavoidable. But getting into debt is also a major responsibility. Too much debt can easily get us in trouble.
Avoid the debt trap by controlling how much you borrow. Even if you qualify for a bigger loan, ask yourself whether you really need the item you are buying and whether you can really afford the debt repayments (on top of all your existing debts and expenses). Consider buying it another day, perhaps after saving up for some or all of it first. Interest charges and the extra you pay in instalment plans over time can add up to a lot more than you think.
In my memory, there were two people I knew whose families squeezed out all the money they could just to buy and stay in condominiums. One person was a schoolmate in junior college and another was a colleague during my stint in National Service.

I remember both as being extremely frugal and I always wondered why being people who stayed in condominiums were they so poor. Of course, those were days when I was a financial ignoramus.

Now, although I think that frugality is a virtue, it is a virtue when we are so without being forced to be so. 

If we had a choice and we chose to be frugal, good. However, if we are frugal because we don't have a choice, that is misery on earth!

I remember when I talked to both of them, they gave me almost identical answers. Yes, I was a nosey kid. Their families had to make hefty monthly repayments to the banks. So, they had to be very careful with their money.

Although I have suggested that investing in properties could give us a leg up in our wealth building efforts, I believe that buying properties without any margin of safety is foolhardy.

Basically, if we had to take the maximum of 80% LTV allowed in order to buy a property and if the monthly repayment was an amount that would lead to a very frugal lifestyle which was not by choice as a result, we should not buy the property. It could be within our means by conventional definition but this is one example of how we should not succumb to conventions.

Buying properties in Singapore has been seen as the way to riches. To many ordinary Singaporeans, buying a condominium for self-stay seems to be a natural first step.

I will share these thoughts:

1. Like I said, if we have no choice but to be frugal in life, that is utter misery! If to stay in a condominium, we are forced to live like paupers, the price is too high.

2. We have to remember that our homes do not generate cashflow. So, a home is not really an investment. It is consumption. So, just like anything we consume in life, make sure we do not spend beyond our means. In fact, we should not just spend within our means. We should spend well within our means.

Of course, our homes might have the unique property (pun unintended) of being able to appreciate in price over time which makes them unique in the world of consumption but it does not detract from the fact that our homes are not investments but consumption.

3. Borrowing to the max with no reserves means there is no margin of safety.

Probably, a $3,000+ monthly repayment on a 30 years loan of $800,000 is manageable for a couple who is making some $8,000 in combined gross monthly income. Now, we have lots of cheap money sloshing around, after all.

What happens when the party stops? 

What if interest rates go up just 1% which means almost a doubling from current levels? 

What if the economy goes into recession and home values decline? 

What if the couple were to be retrenched?

I won't talk about whether it is a good time or bad time to buy a condominium in this blog post. I will, however, say that we must be very careful or we could end up slaving just to stay in a condominium. 

Surely, this is more so for new condominium buyers who intend to be owner-occupiers today.

Related posts:
1. Good debt is always good?
2. Affordability of housing in Singapore.
3. More cooling measures on the way?


seefei said...

staying in condo has its appeal, for me at least. i will definitely use the facility. however, there are better options like joining a social club with facilities. not as convenient but at a fraction of your condo cost. the saving can be used for other purposes like investment and pampering oneself. but if property prices go up i may miss out on the capital gain but then, that is another story.

AK71 said...

Hi seefei,

I am sure condominium living would appeal to many people. It certainly appeals to me. :)

Just have to do our sums carefully and make sure we have a margin of safety before we buy one for self-stay.

The mad rush to buy private property "as long as we can afford it" is rather worrisome. Hopefully, round 7 of cooling measures would deter such buyers. :)

EY said...

Hi AK,

I won't forget the times when the mortgage interest was 5-6%. Felt the bank was robbing us!

I agree totally that we shouldn't sink so much into a house which we 'consume'. That's why I live in OCR. Bought the place cheap during the financial crisis in 1998. :D


yeh said...

haha, 8k combine income stay in condo? well, i think the couple will need to work one whole life just to serve their property loan.

for me, if i want to buy 2nd property, i will make sure my loan amount <60% or even lower.

anyway, i think it is very hard to invest in sg property. the rental yield or capital gain not so attractive anymore.
as for own staying, i rather stay in HDB than condo:)

Cory said...

Nice article AK. As usual you give a comprehensive thoughts into them.

One thing i like to add, which i assume earlier as well on the doubling of monthly payment with 1% increase. After i did my sum, is not true. This is due to monthly payment has large portion of principal payment. So the interests will not doubled. Maybe 10%-30% more depending on rates increase.

AK71 said...

Hi Endrene,

I wasn't savvy enough to buy properties in 1998. :(

In fact, my parents bought our current family home (in OCR) just a year before the AFC. Ouch!


Well, live and learn. :)

AK71 said...

Hi yeh,

The cooling measures are very good in that they really force people to look hard at their finances before buying a private property.

There will always be opportunities to make money from real estate in Singapore, even now. It is just a lot harder and the returns are less attractive, you are right.

AK71 said...

Hi Cory,

I think you might have gotten a bit mixed up. ;)

I asked the question: "What if interest rates go up just 1% which means almost a doubling from current levels?"

I made no mention of monthly payment. I was referring to a doubling of interest rates from current levels. :)

As for thinking that a large portion of monthly repayment is for paying down of the principal amount borrowed, you might want to make an appointment with your banker to understand how housing loan repayments are calculated.

You might be surprised by how large a proportion interest payment is of the total paid in the initial years. It is scary.

Don_Jerome said...

If we had a choice and we chose to be frugal, good. However, if we are frugal because we don't have a choice, that is misery on earth!

I like this saying...haha...very poetic and true.

meesiam said...

A friend told me his sister bought a condo she can barely afford just becos she treat it as "forced" savings...and i believe they are pp buy not to own it at the end of the day but to "enjoy" it while able to ...and of course for "flipping"...

EY said...

Hi AK,

You are right! The bank front loads the interest. So the actual interest paid isn't as low as it is portrayed. When interest rate returns to the norm of 3% to 4%, a lot of ordinary folks who thought that ignorance is bliss would be feeling the heat! It is always wise to plan with the worst case scenario in mind and keep a critical mind to filter out all the sales talk when we have to buy things with a big loan.

Oh, btw, the 'Technical Analysis for Dummies' book arrived from France! The condition is pretty good. Much better than I expected and definitely a super value deal. Thanks a bunch for the recommendation and providing the link for making this awesome purchase!


AK71 said...

Hi Jeremy,

Poetic... It is really nice of you to say this. Thank you. :)

It has been a long while since I wrote a poem.

AK71 said...

Hi meesiam,

Unfortunately, this is not the first time I have heard something like this. "Forced savings."

People have to think a bit more rationally and they will realise that it is a flawed argument.

AK71 said...

Hi Endrene,

I first learned about this "front loading" when I received the statement from UOB for my first home loan years ago. I was shocked that the interest portion was easily >60% of the monthly amount paid! Shocking!

Many people don't know how it works and that after years of paying down their mortgage, they would have only paid down a small percentage of the principal borrowed!

For 3 years before the project received its TOP, I was saving to do a partial capital repayment and I was happy I did. I paid off 50% of the loan two months after TOP and the interest portion of my monthly repayment shrank from $2+k to just $900 every month!

So, for my next home, the strategy is the same. I will allow the bank to make some money from me but not an obscene amount. ;)

Yeah, your book arrived! Happy. :)

EY said...

Hi AK,

That's certainly a good strategy! Don't fatten the bankers' bonuses anymore! (Yes, I'm a sour grape, very jealous of bankers. :P)

People become aware of the front loading only when they receive their statements and if they'd bothered to look into it carefully.

I wasn't conscious about it for my first home loan and didn't do the calculations. Just had an inkling that the bank was making a lot of money out of our mortgage. Hence I decided to pay off the entire loan when the stock market recovered and I made some good money from the blue chips that I sold. BTW, the loan quantum wasn't that much lah, in case you think I really made a lot of money. :P

It was the most recent loan which I took for the 1-bedroom apartment that I realise how much front loading the bank does. Currently, I'm paying $220+ monthly instalment as the development is still under construction. Out of which, more than $70 is interest. That translates to around 33%! And guess what's the interest rate I signed up for? 1.12% for the first year. How to reconcile this?

I'm hoping to clear this mortgage within 5 years after TOP. That's why my resolution for 2013 is to 开源节流. If I don't achieve my goal, I'll just have to live with a meagre sum of pocket money when I retire and be a grouchy old woman blaming the bank for taking away my money! LOL~


SGPunter said...

Hi AK71,

Actually our homes does generate cashflow, if we decided to rent out one or all of the unit. Thus it's an investment.

SnOOpy168 said...

well AK & EY

there is the little thingy called Amortization Schedule, which listed both the spilt of each payment into capital & interest. Easily done via some loan websites or a Amortization Calculator.

Took advantage of HDB loan's partial capital pre-payment and top whenever I have leftover $ at the end of the month. Generously reduced the # of balance payment by a wide margin. The interest savings, well, I didn't bother to remember the figures as it is future cash.

However, when I shared this with many, it was met with the eyes of "HDB loan 2.6%, cheap loan. I can do better returns investing that amount and the nett effect is winnings / kopi $ for me" Really ? With $1-2k per month, you can arh. Good for for you lah. 一山有比一山高.

Ray said...

Sorry guys for being ignorant.
What's OCR? Does it stand for Orchard Road by any chance? ;D

I think people buy condo not just for themselves but also their kids and even extended families to enjoy the facilities. That is somewhat selfless, if you think about how they work and save really hard to make others' life nicer.

There are some who want a condo because, u know, it's just more atas! Who cares if you live like a pauper as long as you look like a king. :D

There are some who want to make it in life... properties like what AK pointed out, is (rightly or wrongly) considered the most sure win way to earn your first million in SG. They consider the property price to be always rising. Sure, recessions do happen, but that's once every 15 years? Surely not so sway right? :) Well, I'm just trying to make ends meet now. If I have spare cash in future and property market crashes, you will see me lining up to go to development showrooms too.

take care guys...

AK71 said...

Hi Endrene,

I know the feeling. I felt like I was being robbed by the bank as well! By the time I paid off my mortgage in full 3 years after TOP, interest rate on the loan was 5% per annum!

I was lucky enough to get a pretty good deal on my most recent loan for my hut in the sky. Currently, it works out to be 1.07% per annum. However, like in your case, the interest portion is easily a third of the monthly payment. As the bank disburses more of the loan over time, the absolute dollar value of the interest portion will balloon...

With interest rate possibly rising by 2015, it is a good idea to pay off the loan as quickly as possible for a peace of mind and you will be a happy old lady. ;)

AK71 said...

Hi SGPunter,

I won't say a home "does" generate cash flow. I would say that it "could" generate cash flow.

It would depend on how willing are we to share our homes with outsiders.

I think of it like dining with family members at a restaurant and having a stranger to join us so that he could help to defray the cost of the meal. ;)

AK71 said...

Hi SnOOpy168,

Amortization Calculator! That was what my banker told me too when I called her to find out how the calculations were made. Thanks for jogging my memory. :)

Well, there will always be arguments about how good or how bad debt can be. I have concluded some time ago that it really depends on what gives us a peace of mind. Of course, this is not the most satisfactory answer. ;)

For me, it makes sense to pay down the total outstanding home loan to at least reduce the interest portion of the monthly repayment as soon as the property receives its TOP. :)

AK71 said...

Hi Ray,

CCR = Core Central Region
RCR = Rest of Central Region
OCR = Outside Central Region

You could use the Glossary from URA if you are interested to find out where they are: URA Glossary.

Well, I have no doubt that there could be tens of different reasons to buy a condominium.

As long as people have done their sums right, factoring in a margin of safety, they should be OK.

Margins of safety must be tangible and not some idea that "property prices will always go up" or "sure can rent out to cover the monthly loan repayment". ;)

To be a king on the outside but a pauper on the inside? I shudder at the thought... ;p

EC said...

Interesting comments about property and the mortgage payments - I learnt something new again from ASSI today haha. Thanks.

I'd rather be a king on the inside but a pauper on the outside lol.


AK71 said...

Hi Eugene,

It is probably a lot safer and less bothersome to look like a pauper too. ;p

EY said...

Hey guys,

It's okay to look like a pauper not please don't take it to the extreme and smell like one too! *FAINT*



AK71 said...

Hi Endrene,

Thank you for reminding me to take regular showers. ;p

Cory said...

I am kind of lost on the front load conspiracy .... :)

The bank charge you what you borrowed. Since you owe the most principal in the earlier years, the absolute interests should be higher.

Maybe I am missing something ... help me.

AK71 said...

Hi Cory,

I was just trying to highlight that a large portion of our monthly repayment to the bank is made up of interest payment, especially in the initial years. Nothing more. :)

Just in case people think that if the interest rate on their mortgage is 1.1% per annum and, therefore, the interest they pay on their 30 years loan of $1 million, for example, is $$11,000 in the first year, it is not.

Using an amortization calculator, we would see that in the first year, of the S$39,150.42 paid in total, S$10,857.64 is interest paid. In the 30th and final year, of the S$39,150.42 paid in total that year, only S$232.28 is interest paid. A big difference.

Your statement that the bank charges us for what we borrow is correct. No argument there.

I was concerned that you might not have fully understood how much interest payment is as a proportion of monthly repayment when you said "monthly payment has large portion of principal payment". If I was mistaken, please pardon me. :)

So, if interest rate were to double to 2.2%, using the same example of a 30 years $1 million loan, in the first year, of the S$45,564.10 paid in total, S$21,760.94 is interest paid which is 47.8% of the total amount paid!

This compares to when interest rate was 1.1% and interest paid was only about 27.7% of the total amount paid.

While we are at it and this is just for the shock and awe effet, if interest rates on mortgages were to move to a historical normal of 3 to 4% per annum, we would see the following for a 30 years S$1 million loan:

Total paid in 1st year: S$50,592.48
Interest paid: S$29,714.48
58.7% of total payment goes to interest payment.

Total paid in 1st year: S$57,289.84
Interest paid: S$39,697.47
69.3% of total payment goes to interest payment!

This gives the impression of "front loading" which is a very loaded (pun unintended) expression, of course. Apologies to any bankers in our midst. ;)

My personal experience which I shared here in an earlier comment was at a time when interest rate was 4 to 5%. Realising that >60% of my monthly payment to the bank was for interest payment was a real shocker!

EY said...

Hey Gentlemen,

It was my bad! Confusing myself and others on the 'front loading'. Can't help being unintelligible when I was emotionally charged after thinking about the 5-digit sum that was 'robbed' from me every year at an interest rate of 5+% to 6+%! Haha.

Cory made a good point. Absolute interest tends to be higher during initial years due to a bigger principal sum. :)

But as AK has pointed out, when interest rate rises, the absolute interest per annum can be much higher than what we pay in the initial years even on a reducing principal sum. So we really should keep tabs on the interest hikes and work towards reducing our borrowings.

The additional implication of higher interest is, we'll need a higher rate of price increase in the property to recoup the interest paid to the bank. For instance, at 4% interest on a 80% loan over 5 years, the price of the property will have to go up at least 15% to breakeven.

Oh AK, thought it might be a good idea that you convert your illustration into a blog post and list it on the right hand bar. Very good content as a sanity check! :D


AK71 said...

Hi Endrene,

Oh, all of us get a bit mad when it comes to money matters, especially those that involve a significant outflow of money. I know I do. ;p

I am going to be lazy and tag this blog post, which I have already included in the right side bar, with the words "Sanity check in the comments section."

Of course, if I run out of things to write about, a blog post on this could be a good back up plan. ;p

Thanks for the suggestion. :)

yeh said...

Hi AK,
Me and my hubby still have outstanding loan 300k. Our OA outstanding about 80k. Cash about 400k.
Do u advise us use our cash +cpf to clear HDB loan? Thanks.

AK71 said...

Hi yeh,

It would depend on what is the interest rate on our housing loan. If it is under 2% per annum, would we give up the 2.5% interest paid on our OA to pay down the loan?

It also depends on whether we can make our cash work harder. If the only form of "investment" we know is a FD that pays 1% per annum in interest, we are better off using it to pay down the housing loan, I suppose.

You decide. ;)

Cory said...

The monthly increase and absolute interests due to interest rates can be found in my blog. :)


AK71 said...

Hi Cory,

I was under the impression that your blog was a secret blog that is out of bounds to the public. ;p

David said...


just asking for your thoughts. Right now, the MRS and I are planning to clear the final amount of our HDB- think it's about 40K. The idea was not to pay anymore interest to HDB, and secondly it allows us to plan a war chest for acquisitions (property) or other investments. However my wife is thinking of liquidating some unit trusts besides using savings to clear the loan. Is this advisable? Any suggestions from any fellow investors for such decisions.

AK71 said...

Hi David,

Breaking down the situation you have at the moment, we will have to ask:

1. Whether we are comfortable with having debt? If not, clear the debt right away.

2. If we are comfortable with having debt, does it make sense to pay down the debt in full now? It would make sense if we are not able to generate higher returns than the cost of debt with the money we have on hand that is in excess of our emergency fund.

That is how I would handle the situation. :)

Elvin Liang said...

Home is where you should be living, and planning to live in. If it's for investment, the idea is to get a second home. Never use your current house as a collateral to leverage for another property, the risk you are taking is really unnecessary.

To liquidate unit trusts (whether making $$$ or not), if the unit trust returns some profits year-on-year, why liquidate? It is an investment vehicle vs property meant for living.

Savings should not be touched as savings are for emergency and there for a reason (to mitigate any emergency which require capital urgently). Unless the savings have been specifically set aside for other intended purposes for investment or for rosy opportunities, otherwise, it would be a better idea to keep it there.

AK71 said...

YueJer Lee: if you want an acquisition warchest, then liquidate unit trusts. Cos when it's time to acquire, stocks are down and unit trusts would be down too, leaving you less acquisition capital.

- Commented on my FB wall.

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