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3-month SOR tumbles back to Nov levels even as US$ rallies

THE three-month swap offer rate (SOR) has tumbled further amid a rally in the US dollar (USD), as the market grapples with what some see as possibly aggressive moves by the US central bank to shrink its balance sheet as part of its normalising monetary policy.

The key three-month SOR fell below 0.70 per cent, to 0.68419 per cent on Tuesday, back to last November levels. The more volatile SOR is used to price commercial loans. The three-month Sibor or Singapore interbank offered rate - a benchmark for home loans - was stable at 0.99308 per cent. Meanwhile the USD has rallied to S$1.39 against the Singapore dollar (SGD), from 1.38 a week ago.

Usually a stronger USD would result in higher SOR rates but given the tumbling SOR, some think the USD may weaken again in the not too distant future.

"The difference in opinion between spot USD/SGD and what the forwards imply accounts for this phenomenon," said Eugene Leow, DBS Bank interest rate strategist.

"Even as the USD strengthens over the past week, the forward space points to USD weakness in the coming months, thereby putting downward pressures on SORs," said Mr Leow.

Markets had not reacted much last week following the second rate hike by the US Federal Open Market Committee (FOMC); the attention has turned rather towards its unwinding policy or shrinking of its US$4.5 trillion balance sheet.

The way the Fed will unwind is by letting securities mature when they come due, when means the Fed will release less USD into the US liquidity system. The Fed bought trillions of dollars of long term Treasury and mortgage backed securities to save the US from deeper recession back during the 2007/8 global financial crisis.

The confluence of a slightly more aggressive pace of FOMC balance sheet unwinding, possibly starting by September 2017, as well as an intended third 25 basis point rate hike later this year, and combined with recent hawkish rhetoric from Fed speakers like William Dudley, have contributed to a stronger USD tone, which explains why USD/SGD is rising, said Selena Ling, OCBC Bank head of treasury research & strategy.

"SOR, on the other hand, has plunged as market players attempt to pre-empt tightening USD liquidity story once the FOMC embarks on its balance sheet unwinding intentions, especially in light with the usual month/quarter/half-year end funding requirements coming up in end-June," said Ms Ling.

Unwinding or shrinking the Fed's balance sheet will lead to USD liquidity tightening, so market is pre-funding, which means those who require USD are selling SGD leading to more SGD flooding the market, hence the plunge in SOR, Ms Ling explained.

"So on the currency side, the USD is getting stronger....on the funding side, people are buying to get hold of USD because of this unwinding policy," she said.

"The tear between Sibor and SOR may persist for longer," she said.

For SGD borrowers it's hard to know how long the lower rates will last, or this is time to lock in lending rates.

"It's hard to say which market is right. SOR can either head higher or the USD/SGD can go down. For the longer term, these two rates should head directionally together," said Mr Leow.