The Bank of Canada Announced Their New Overnight Rate.
Update on October 26, 2022 the Bank of Canada announced its Overnight Rate has increased by another 0.5% to 3.75%
This means the Bank Prime Rate is now 5.95%; and all Prime related financial products’ interest rates have increased by another half a percent.
Good news for savers and investors who own Variable GIC’s; the best rate I have seen is Prime less 2% = 3.95% today – a one year, fully cashable after 29 days, variable GIC from CIBC.
But if your mortgage has an Adjustable Rate or is a Variable Rate with a static payment, this latest development is yet another day of misery as things just keeping worse.
And for those buyers taking on new mortgages, they are finding the variable mortgage rate is roughly the same as the fixed rate offerings. Long gone are the days when choosing variable meant you had a rate at least 2% lower than the best fixed rate offers.
Borrowers with an adjustable/variable rate mortgage are dealing with a huge increase in payments in nine short months.
If you had a $500,000 such mortgage with a 30 year am in February of 2022, your monthly payment was just $1,712.59.
Today in late October, 2022 that exact same adjustable rate mortgage has a payment of $2,773.83. An increase of $1,060 in eight short months.
If you have a static payment, your $1,712 monthly payment is now no longer paying down the mortgage balance.
You are now in a state of negative amortization. Their $1,712 payment is all going towards interest. In fact, the monthly interest is now $2,041, and your mortgage balance is actually increasing by $329 this month.
That is the exact opposite of how mortgages are supposed to work.
So, what can mortgage borrowers who have hit their Trigger Rate do?
You will find that increasing your payment is likely far easier on your cash flow than converting to a fixed-rate alternative.
In this example, an increase of $400 should restore your mortgage to one where the balance is declining, whereas converting now handle the larger payment increase, you will be stuck with your variable rate mortgage.
Original Article Published September 7 2022
On September 7, 2022 the Bank of Canada announced its Overnight Rate has increased by 0.75% as the ongoing war against inflation rages across the globe. This is the fifth increase since March 2nd of this year, as the rate has risen from a low of 0.25% to today’s 3.25%.
And the banks have all raised their Prime Rate by 0.75% too. Prime is now 5.45%, up from 2.45% in early March.
Only last week, CIBC economists said this is the last rate increase we will see this year and next, but it is quite clear now they were wrong. To the contrary, The Globe and Mail reported on September 8th that a BoC senior deputy advised rates are to keep rising, and a period of lower growth is needed to tame inflation.
Others feel we are just getting started.
The overnight rate hasn’t hit the ceiling yet.
Earl Davis of BMO Global Asset Management feels we are only halfway towards the top(2) – that the overnight rate will rise as high as 6%, with stiff increases kicking in the latter part of 2023. If he is correct, we would ultimately see the bank prime rate at 8.2% !!
Both positions have their supporters, and they are quite different, aren’t they?
This proves my point that we simply don’t know. We rarely know. Invariably we make calculated decisions based on the present, and as the months unfold, we change or cement our opinions based on new data.
As a result, I have never wanted to predict interest rates.
The Bank of Canada was wrong in 2020 and 2021, calling for unnaturally low rates till at least 2023. And do you know anyone who called the rapid rise of rates we have already seen this year?
I have always felt that predicting interest rates is really difficult – even for the Bank of Canada and the country’s best paid economists.
We should make decisions we can live with over a reasonable time frame of five years or more. If that means choosing a fixed rate mortgage at 5% plus or minus, then that is perfectly fine. Presumably, by the time your mortgage matures, things will have settled down and the economy will be healthy and interest rates lower.
If you are convinced we are near the peak of rising rates, and you want to benefit from the decline which follows, then you can stick with a variable mortgage plan. But please do keep in mind the Bank of Canada did say today ” The Governing Council still judges that the policy interest rate will need to rise further.”
And as always, do what feels best from an emotional health point of view. Do not take on stress you cannot handle.
What Does The Bank of Canada Increase Mean for Mortgage Rates?
It likely means the variable rate mortgage will be out of favour for most new borrowers. A few months ago, a variable rate mortgage could be had for 2% less than its fixed rate counterpart.
Not only was the rate difference attractive, but also the vagaries of the mortgage stress test calculation meant borrowers could borrow much larger mortgages if they chose variable rather than fixed.
After the July 13 Prime Rate increase of 1%, that differential was cut in half. Fixed rate mortgages, for the most part, did not budge, yet variable rate mortgages instantly increased by 1%.
And with the September 7th BoC increase, there will be very little difference and no incentive to choose variability and uncertainty over sleep-well-at-night fixed rate mortgages.
The paradox about the rapidly increasing Prime Rate is that it does NOT mean there will be an impact on fixed rate mortgages. These rates are driven more by Government of Canada bond prices. Banks actually use the 5-year bond yield market to determine their fixed mortgage rate.
When Prime increased by 1% in July, fixed rate mortgages stood pat.
Who Will Want A Variable Rate Mortgage After September 7, 2022?
There will be some new variable rate mortgages, just not that many. Those who desire flexibility and who fear the prepayment penalties of a fixed rate mortgage may choose variable.
Also, those who feel that selecting a variable will still be a winner in the long run. Why? Because when Canada officially beats inflation and enters into a recession, it is almost a sure thing that rates will come down at that time. The unknown here is what will be the ceiling height before the turnaround occurs.
What Should Variable Rate Mortgage Holders Do?
Rob McLister reported in the Globe and Mail “I asked RateHub.ca co-founder James Laird what he tells people. His advice: “Ask yourself, will you be more disappointed if you lock in now, and rates drop and you miss out, or if you float your mortgage and rates move up further than anyone expects?”
His logic is, since no one really knows what the future holds, it’s largely a question of what you can tolerate……His company doesn’t take a position on rates direction, nor make firm recommendations. Instead, he asks borrowers to assess their pain/pleasure preference.”
I agree with James on this point. If you cannot stand the uncertainty, then consider fixed rate alternatives. Ask your lender what your conversion options are. As one of Toronto’s top mortgage brokers, I educate my clients and provide them with the best possible lending solution, so if you would like my opinion on it all, please ask me!
If you have a static payment variable rate mortgage, you may be at the point where your payment is no longer reducing the principal owing. Instead, your entire payment may be going towards mortgage interest. If that is the case, then you have hit your Trigger Rate.
Ross Taylor Mortgages still has the only free online Trigger Rate Calculator in Canada!
If this is you, and you have not already done so, I recommend you increase your mortgage payments by a bit to ensure you are not going into negative amortization. For a typical sized mortgage, an increase of $200 to $300 would be fine; and more if your mortgage is very large.
Next stop on this journey will be your Trigger Point!
What Does The Rate Hike Mean For First Time Home Buyers?
We are experiencing unprecedented changes at a very rapid pace. There is no manual for this stuff – it’s unchartered territory.
If you have a mortgage pre-approval in the GTA, please ask me if the amount you qualify for has been adversely affected by Tuesday’s rate hike. My voice is hoarse today from all the phone calls I have had this week with our clients who are actively shopping for a home. I don’t want to miss any one!
And if you are planning to buy or refinance within the next four to six months, please call me at 416-989-1000 and I will help you lock in today’s rates for a purchase tomorrow.
What Does The Bank of Canada Increase Mean for Real Estate?
Rate hikes affect affordability, meaning less qualified buyers. That said, the past 2 years demonstrated there are far more buyers than sellers when the market is healthy. Right now though, activity levels are down across the board, as buyers and sellers wait for greater clarity.
Certain markets, like Toronto, are showing stability notwithstanding all these challenges – and let’s not forget, we still have a shortage of affordable housing in Canada. And with immigration opening up to more than 400,000 new immigrants each year, that problem is not going away.
Toronto has been the “crane capital” of North America since 2015. We have more construction cranes (building condos and commercial office towers) than any other city, by a wide margin!
Rents continue to climb, so investors can sit tight and clip coupons till they see the next great opportunity.
I myself am watching for buying opportunities right now, and we have many clients doing the same.
If you are choosing a brand new mortgage, you should mostly lean towards a fixed rate. Most will still choose a five year term, looking for payment certainty for a long time. But you can also consider choosing a 2 or 3 year term. There is a decent chance that by the time your mortgage matures, that rates have fallen back towards normal levels.
We are experiencing unprecedented changes at a very rapid pace. There is no manual for this stuff – it’s unchartered territory. Now is the time for prudence and conservatism. Don’t overextend yourself with discretionary purchases or reckless spending. And be prepared for the upcoming recession.