Floating rate borrowers are now stuck in the fastest rate-raising cycle since the 1990s.
The Bank of Canada made their lives worse on Wednesday by increasing Canada’s key interest rate by another 50 basis points.
If bond market expectations are correct, floating rate mortgages may have to withstand a 50 basis point interest rate hike at the July 13 and September 7 central bank meetings. It could potentially increase another 50 basis points by Dec. 7 (there’s 100 basis points, or basis points, in a percentage point.)
By the end of 2022, the base price will likely be about three percentage points higher than it was in February.
Blow for mortgage payments
From Thursday, the prime rate will rise to 3.70 percent at most lenders.
For someone subject to an adjustable rate mortgage (ARM), their payments would jump about $24 per month for every $100,000 of the balance, assuming 20 years of remaining amortization.
For people with a variable rate mortgage (VRM), the payments won’t change at all – but they will pay more interest and less principal in the future.
Side note: Variable mortgages have fixed installments. ARMs don’t do that. But it gets confusing when some lenders call their floating rate mortgages “variable” even though they really are “adjustable.” I can’t tell you how many people I’ve talked to who thought ARM had fixed payments – or who didn’t know that their “variable” payments could change.
More modified pains in the future
Our central bank says “inflation continues to widen” and “is likely to rise further” before “easing”. He adds that “the risk of entrenching high inflation has risen” amid a “widespread labor shortage” and “broadening” of wage growth.
These worrying statements, along with record low unemployment rates, healthy consumer spending and the bank’s continued understatement of inflation, have sent the bond market into a tailspin.
Investors were so nervous that they pushed the Canadian five-year bond yield up 13 basis points on Wednesday, even though the central bank was expected to raise interest rates by 50 basis points for weeks. The increased yields could push the five-year fixed interest rate closer to 5 percent this month.
Impact on Mortgage Approvals
The government mortgage “stress test” equation currently makes it easier to get approved for a variable-rate mortgage than it is to get a more conservative five-year fixed-rate mortgage. In fact, choosing a five-year fixed plan limits your theoretical purchasing power by about 10 percent compared to a variable rate.
This is bad policy and I expect the government to address this design flaw soon.
If you have an ARM and want to continue paying the same amount of principal as you did before the Wednesday hike, simply contact the lender and ask them to increase your payments. But note that many lenders limit you to one payment increase per year.
CMHC shifts downside risks to first-time buyers
The government’s notion of “common equity” is changing, at least in relation to the much-omined First Home Buyer Incentive (FTHBI).
CMHC quietly announced Wednesday that it will “limit its share of home depreciation…to a maximum loss of 8 percent annually” for users of its common stock system. (It hasn’t had a limit yet.)
The government appears keen to limit potential losses from the FTHBI as home values face the biggest potential drop in years. Peter Routledge, Canada’s chief banking regulator, told the Hurl Burley podcast in February that some property markets could sell as much as 20 per cent.
“My primary reaction to the news is that it will only lower participation rates in the program,” said Paul Taylor, CEO of Mortgage Professionals Canada. “I am also disappointed that CMHC will announce the changes on their effective date. To effectively make this change without a public deadline, it sounds too bad.”
The CMHC also said it would limit its share of the house price gain to 8 per cent after “reactions from Canadians”. But what do you think will be more likely over the next 12 to 24 months, a 10 to 20 percent increase in national average home prices or a 10 to 20 percent correction? I’ll have more on this next week.
Mortgage rates this week
This may be the calm before (another) storm but the rates have barely moved this week. Nationally, the lowest one-year and four-year uninsured fixed rates have jumped by 10 basis points, but that’s all there is to it.
With the prime rate hike this week, the average variable discount mortgage rate among national lenders will rise to nearly 0.60 percent, or 3.10 percent.
You can still find online brokers with one-year terms of 2.99 percent (insured) or 3.29 percent (uninsured) — which is a good game considering the potential for another 150 basis points increase by the end of the year.
According to a new CBI survey, 36 percent of people with a variable rate “say they are likely to switch to a fixed rate in the next 12 months.” This is probably not a good idea, at least to the point where they switch to a fixed five-year plan. When constant prices rise by 250 basis points, history indicates a high probability of a reversal in two to three years. Although the possibility is not certain: the period from 1973 to 1981 showed us that history does not always repeat.
Prices as of Wednesday from providers that advertise rates online and lend to at least nine counties. Insured rates apply to those who buy with less than 20 percent down payment, or those who transfer a previously insured mortgage to a new lender. Uninsured rates apply to refinances and purchases over $1 million and may include premiums at the applicable lender rate. For providers whose rates vary by province, their highest rate is shown.
Thank you for reading Mortgage Rundown, a sneak peek into Canada’s mortgage landscape from Robert McCallister, interest rate analyst, mortgage strategist and editor MortgageLogic.news. You can follow him on Twitter at Tweet embed.