Hike rates

Mortgage recap: Will the Bank of Canada raise rates before the Fed?

As soon as the Bank of Canada thinks it is losing the battle against inflation, it will raise interest rates, regardless of whether the US Federal Reserve is willing to do the same.

That’s when we’ll begin the march toward judgment day, when we’ll know whether variable or fixed rate mortgagers made the right choice.

Over the past quarter century, Canada’s central bank has raised its policy rate independently of the Fed for three periods: 1997-98, 2002-03, and 2010. Future rates implied by the bond market suggest this will happen again. .

Some argue that low rates do not fuel inflation and therefore raising rates is not the key to bringing inflation back to its 2% target. But make no mistake, tightening rates is the Bank of Canada’s No. 1 tool. That works. As the bank has done before, it will use this tool without hesitation to save its reputation as an inflation fighter, even if the Fed takes its time.

So yes, expect some divergence between Canadian and US rates, but not a big one; it would push up the loonie and hurt exports too much.

And if the Fed realizes that it, too, is lagging the inflation curve, which just hit a three-decade high of 6.2% in the United States, the Fed will catch up with the Bank of Canada, in all haste.

What goes up must come down

We are approaching a point where five-year fixed mortgage rates become mathematically risky relative to variable rates. In other words, if you believe in the ability of the market to predict interest rates.

The higher and faster interest rates and commodity prices (energy costs, for example) get, the more rate hikes will be needed to limit inflation. And therefore, the closer we get to the next economic downturn.

This is important for mortgage buyers because economic downturns, not to mention recessions, usually lead to lower rates.

The market already predicts this. Investors believe the Bank of Canada will need to raise rates by at least 175 basis points (bps) to control inflation over the next two years. But that rise will slow the economy so much that it will lead to rate cuts in 2024, according to overnight index swap pricing, as tracked by Bloomberg. (There are 100 basis points in a percentage point.)

What is the risk of you choosing the wrong mortgage rate?

We’re heading into the toughest time to own a home since the interest rate spikes of the early 1980s

This is why the yield curve is flattening, which means that the spread between long-term rates and short-term rates is narrowing.

If this “spread”, as they call it, compresses too much, we get an inverted yield curve. That would signal a high probability of a recession – and lower mortgage rates.

If you look at today’s spread between Canada’s 10-year bond and its two-year bond, it’s down to 0.68%, or 65 basis points lower than in the spring. Indeed, rates expert Ian Pollick of CIBC Capital Markets noted in a report earlier this month that Canada’s yield curve “enters the coming up cycle flatter than it is never got this far before the actual rate hikes.” Very unusual.

RBC Capital Markets summarized why in a recent report: “Canada has less room to tighten aggressively given higher levels of household debt.

A plausible tariff trajectory

As of this writing, implied prices in the bond market show Canadian rates peaking after only two years, then falling slightly in 2024 for the reasons above. Mortgage buyers unfortunately cannot rely on this. This is just a projection that will undoubtedly change. But it reinforces bond traders’ belief that rate hikes won’t last.

If rates rise as much as the market currently expects through 2023, it would only take two rate cuts in 2024 or 2025 for today’s lowest widely available uninsured variable rate (1.34% ) beats a fixed rate of 2.59% with similar rates. characteristics, based solely on interest cost. Note to Insured Borrowers in Default: Some regional online brokerages, such as Butler Mortgage in Ontario, British Columbia and Alberta, are now advertising effective variable rates at an all-time high of 0.87%.

Of course, market projections are fluid and often wrong. People also said that the high rates would be short-lived in 1978, just before they exploded another 10 percentage points.

While inflation may surprise us, a 10bp rise in borrowing costs is not in the cards this time around. Not even close. But if the rise in prices is durable, that is, not as “transient” as central bankers claim, the magnitude and persistence of higher rates could surprise everyone, even the Bank of Canada.

If you can’t handle this risk but don’t want to pay the premium for a five-year fixed contract, consider a four-year fixed contract instead. You’ll find them up to 25 basis points below the five best fixed rates, depending on the province. That 25 basis points represents an interest savings of $3,000 over the first four years, on a typical $300,000 mortgage.

Lowest mortgage rates announced nationwide

TERM NOT INSURED PROVIDER INSURED PROVIDER
1 year fixed 2.44% RBC 1.99% True North
2 year fixed 2.08% Scotia eHOME 1.99% Many
fixed 3 years 2.18% Scotia eHOME 2.13% Scotia eHOME
4 years fixed 2.33% Scotia eHOME 2.19% nesto
5 years fixed 2.54% Mandarin 2.24% Marathon
10 years fixed 3.30% National premiere 3.04% HSBC
variable over 5 years 1.34% Simplii 0.99% HSBC
HELOC 2.35% Mandarin N / A N / A

The rates shown in the attached table are from providers that lend in at least nine provinces and advertise the rates on their websites. Insured rates apply to those buying with less than 20% down payment or those transferring a pre-existing insured mortgage to a new lender.

Uninsured rates apply to refinances and purchases over $1 million and may include applicable lender rate premiums. Rates are based on a 25 year amortization.

Robert McLister is an interest rate analyst, mortgage planner and contributing editor for The Globe and Mail. You can follow him on Twitter at @RobMcLister.