How will low interest rates in the US affect you?

The Fed's decision to keep the rate at near 0% will lower the cost of borrowing in the UAE but it spells bad news for savers

Remittances from the UAE are expected to continue at stable levels. The volumes, however, would be a little subdued as white-collar expatriates look to hold on to their reserves for better rates. Pawan Singh / The NationalShow less

If you are planning to buy a property in the UAE this year, then there is some good news for you. The US Federal Reserve's decision to retain its benchmark interest rate at near zero per cent until at least the end of 2023 to stimulate economic growth and counter weak inflation will lower the cost of borrowing for consumers, including for mortgages.

Low interest rates for a prolonged period of time will also result in a weaker US dollar. And with the dirham pegged to the greenback, this has obvious implications for residents in the Emirates. Not only is it expected to further reduce the cost of borrowing in the UAE, but it will also boost the property market and deepen investor interest in gold, cryptocurrencies and the equity market, according to experts.

At the beginning of the pandemic, the US dollar strengthened to an almost two-decade high as demand rose for a safe-haven currency. This resulted in non-dollar-denominated buyers having to pay a premium for UAE properties.

“Since the dollar’s peak in the latter part of March, we have seen demand for a safe-haven currency such as the US dollar dissipate and, as a result, the dollar has weakened by 4.9 per cent from its peak to mid-September,” says Taimur Khan, an associate partner at Knight Frank.

“Given current market valuations and outlook for the market, international buyers who can capture additional discounts via currency are very likely to take advantage of the UAE property market.”

Aside from lower financing costs, developers have also begun to offer favourable payment plans to attract demand. According to Knight Frank data, on average 28.4 per cent of the total payment for Dubai properties is structured to be paid post-handover, up from 6.6 per cent in 2016. Some developers are also throwing in service charge exemptions and transaction fee waivers, among other offers.

Developers are now also demanding lower levels of payments during construction and on completion, says Mr Khan. In 2016, 43.1 per cent of the total payment was required during construction and 39.7 per cent on completion. In contrast, these have decreased in 2020 to 34.1 per cent and 28.3 per cent respectively, according to Knight Frank data.

Interest rate cuts by the UAE Central Bank have led to a fall in the cost of borrowing. While the UAE’s six-month Emirates Interbank Offered Rate (Eibor) has fallen from highs of 3.14 per cent in early 2020 to lows of 0.5 per cent in mid-September, mortgage rates have also followed suit, Mr Khan adds.

According to Mortgage Finder, mortgage interest rates have fallen over the past 18 months, sitting at 2.69 per cent in 2020 from 3.75 per cent this time last year. Both investors and owner-occupiers are likely to take advantage of these favourable financing rates.

We would hope to see cheaper finance for new borrowers and better refinance [buyout] options for existing borrowers

"The best current mortgage rates are at 2.69 per cent fixed for three years and 2.99 per cent fixed for five years," Brendan Kennelly, senior mortgage consultant at Mortgage Finder, tells The National.

“We would hope to see the banks in the UAE pass the benefit of the recent Fed announcement on to customers, meaning cheaper finance for new borrowers and better refinance [buyout] options for existing borrowers.”

An increase in demand for refinance mortgages and buyouts is likely following the Fed’s decision. Mr Kennelly says Mortage Finder is “already seeing enquiries from existing mortgage holders looking at lowering their interest rates given the current offers available”.

“The expectation is that we are going to be in a low interest rate environment for at least the next five years,” Mr Kennelly adds.

Leading remittance providers in the UAE do not see a big impact of the dollar weakness. Customers who transfer funds to their families every month will continue doing so, they say. However, there is likely to be a small dip in the number of transfers from rate-sensitive customers who have fewer commitments in their home countries.

“A weaker USD would make remittances to other corridors such as the British pound, euro and Indian rupee more expensive as the exchange rate for all other currencies against the USD will appreciate,” says Rajiv Raipancholia, chief executive of Orient Exchange.

According to Adeeb Ahamed, managing director of Lulu Financial Holdings, the US dollar and the UAE dirham will continue to maintain their supremacy among Asian currencies.

“Blue-collar workers will serve their families and commitments back home, meaning remittances from the UAE shall continue at a stable level. The volumes, however, would be a little subdued as white-collar expats look to hold on to their reserves for better rates,” he says.

A weaker US dollar is expected to lead to higher prices for gold and cryptocurrency as a hedge against inflation.

“Increasing numbers of investors may diversify their portfolio to include digital assets such as Bitcoin and alt coins due to higher expected returns," says Arshad Khan, co-founder and chief executive of Arabian Bourse. "For the period from January 2019 to September 2020, Bitcoin’s annualised price volatility was 74 per cent, with year-to-date 2020 returns of 45 per cent.”

Mr Khan says several corporates and banks have already started diversifying their cash reserves and investment portfolios to include digital assets as well as gold and other alternative investments. This trend is expected to rise in the coming months of global uncertainty due to growth concerns, he says.

Economists expect the Fed’s extreme dovishness to play out more on foreign exchange and bond markets, where the US dollar could weaken further and bond yields remain low.

“The main benefit for the UAE will be the scope of governments to continue to tap international bond markets,” says Scott Livermore, chief economist, Oxford Economics Middle East.

“The tourism sector could get a boost because of a weaker dirham against European currencies, but this is unlikely to be significant until Covid-19 is under control.”

Although increased bank lending is critical for fuelling the recovery, Mr Livermore does not expect to see a significant pick-up, especially in lending to SMEs, until a sustained economic recovery is under way.

While the lower interest rates are welcome news for borrowers, they spell poor returns for savers.

“Interest rates on cash accounts will continue to be low given the [Fed's] comments, meaning that it is going to prove difficult to generate a return on cash assets,” says Chris Davies, a chartered financial planner at The Fry Group.

He adds that there is potential for further capital flows into equities, considering how low-risk assets such as government debt are yielding low returns. Equity markets are also assisted by governments' supportive actions in the form of massive amounts of fiscal and central bank stimulus, Mr Davies says.

“Fixed-income assets could remain a low-return asset class. Investors seeking a return from fixed-income assets will need to be careful of how they aim to achieve this, with potential downgrades and defaults on some high-yield debt investments,” Mr Davies adds.