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The mortgage interest rate outlines the borrowing price from the bank for a defined time. If there is an increase in the lending rate, the mortgagor has to repay more money to the lender in the form of interest on the loan amount.
When the US Federal Reserve increased one-quarter of a point in December after maintaining rates at or near zero for a long time, homebuyers felt the potential ramifications of the move.
With the dirham pegged to the US dollar, the price hike certainly has an impact on the UAE economy. Immediately after the Federal Reserve announcement, the UAE Central Bank raised 25 basis points on its certificates of deposit. However, it is a positive approach to the market as the modest rise will have minimal influence on the housing industry. But let’s see how interest rates rule the mortgage industry.
These are the percentage at which money can be borrowed for a set period. The UAE Central Bank agrees to a rate at which it provides money to financial institutions, which in turn affects the rate at which they lend to people.
Interest rate formation
The UAE Central Bank decides the Emirates Inter Bank Offered Rate (EIBOR). It issues certificates of deposit to banks or private lenders as short-term deposits which are taken by hocking their eligible securities as collateral and in return, the Central Bank pays interest to them. EIBOR is an average of a panel of 11 UAE banks which submit their daily rates. The two uppermost and lowermost rates are
taken out and an average rate is considered. In the UAE, most mortgage rates are associated with EIBOR as a standard for mortgage variable rates, so the rate being charged is determined at EIBOR plus a bank margin. In January 2015, the three-month EIBOR was at 0.68 per cent; by December 2015, it was 0.99 per cent. This year, we anticipate it to rise, influencing deposit rates.
When interest rates are lower and the yield graph shows a steady or upwards take, a borrower takes a mortgage; when the interest rates rise and the yield moves downwards, borrowing slows down.
Homebuying becomes reasonably priced when interest rates are lower. Demand for property purchase rises as more investors enter the market. With the rise in buying demand, property developers unveil their new projects as they are able to back the construction cost with the low finance rate. Existing mortgage homeowners also remortgage their deal for lucrative terms.
Although the mortgage lending cost is linked to the interest rate, the housing sales cost is not directly connected with it. Low interest rates can raise the demand for houses and eventually increase prices. If homebuying becomes expensive, the requisition can slump, which further requires price adjustments.
So, there are other aspects which impact the housing industry like economic growth, housing demand, and supply, and overall industry performance.
Fixed and variable rates
It is vital to understand the terms as rates keep moving with economic changes.
Most UAE banks offer initial fixed rate mortgage terms from one to even five years, followed by a variable rate for maximum 25 years. A fixed-rate mortgage offers a fixed interest rate for a set period, while variable interest rates are linked with EIBOR that keep changing with the market condition and bank base rate.
A better understanding of the current and future market outlook can help you make financially sound mortgage investments. Interest rates are expected to remain near record lows even at the end of 2016 so there is no rate hike threat. Make smart decisions by wisely calculating your mortgage deal.
Source: Dhiren Gupta, Special to Freehold
The writer is Managing Director, 4C Mortgage Consultancy