As you read the below, consider that this was written on November 8, 2022. Much of the information contained in this Interest rate update is contingent on the current rates. Co-authored with Roger Lambert with Dominion Lending - 905-464-1211
What the &%#$ is going on with interest rates?
Yes, it’s been a one-way rollercoaster and rates are up, to a new buyer it may seem like the end of the world but we are still below where things were prior to COVID.
Have you ever wondered what lenders are looking at to determine rates and how they get affected?
First, let's cover 101. There are three types of rates:
A fixed-rate mortgage is an interest rate that does not fluctuate throughout the agreed term.
An adjustable-rate mortgage (ARM) is an interest rate that moves up and down with the lender's prime rate.
A variable-rate mortgage (VRM), a static variable rate that could stay the same throughout fluctuations of the lender's prime rate, a result could shorten or lengthen an amortization
The Bank of Canada holds the lever to the Canadian Economy and the lever is called the Overnight Lending Rate. The BOC aims to keep inflation stable at 2%—or between the target range of 1% to 3% per year. That's where the overnight rate comes into play: It's the Bank's primary tool for controlling inflation.
When inflation is too high the Bank will raise the Overnight Lending Rate to make it more expensive to borrow money causing people to spend less, in turn, lower inflation, that sounds simple right?
We currently have around 7.0% inflation as of the reports in September so we will undoubtedly see another hike in December when they meet. So what caused this inflation? It was a perfect storm of Covid, stimulus money, and supply issues.
So how is that related to mortgage rates?
The BOC Overnight lending rate influences other interest rates, such as a Lenders Prime Rate.
The Prime Rate is the interest rate that financial institutions offer their clients and directly affects the variable rate products and the Home Equity Lines of Credit (HELOC). When the lender offers you a Variable Rate Mortgage or a HELOC they offer either a discount or a premium on their prime rate.
The formula is: (Prime Rate) + or - a %
Example of today's insured variable rates: 5.95% - 0.90 = 5.05%
We are expecting a rate increase soon so depending on your mortgage amount, you're looking at a potential mortgage payment increase of $40 per month for every $100,000 of the balance owing, based on an overnight lending rate increase of 0.75%. For example, if your mortgage balance is $400,000 then your monthly payment will increase by approximately $160 per month.
Fixed rates are largely correlated with Canadian bond yields. What causes the bond market to move up or down? Well, there are a lot of different factors but one of the main ones is inflation.
The fixed rates are almost always priced higher than the variable rates because you are paying a premium for the security of the rate not moving over the term of the mortgage (terms are usually 3-5 years) Another thing that most don’t consider when getting a mortgage is the cost to get out of that mortgage. Fixed-rate penalties are usually 9 times higher than variable rates.
The current fixed rates are between 5.19% - 5.54% for most borrowers.
So which route is the best way to go? Fixed or Variable?
It’s a very personal question and there are some considerations;
Would you stay up all night wondering what the interest rates will do?
Are you comfortable riding the wave up and down of a variable rate?
Will you be upgrading your home or moving in the next few years?
Is your family growing or are you downsizing?
All essential questions could show you which way to go.
In my opinion, we are in unprecedented times, I believe in order to look ahead we first have to look behind. Historically, variable rates have been the better option. Only a very few times has fixed been the better option.
The difference between fixed vs variable is around 0.5%, this won’t last forever as lenders have already started to lower the discount off the prime rates for Variables and almost the same as fixed.
The current strategy I have been suggesting is selecting a variable rate mortgage and pretending you have the fixed rate by Increasing your monthly payment. Any additional dollars above and beyond your monthly payment will go directly to paying down your principal. If rates do come down in the next year or so you could reap the benefits of saving and protect yourself from a massive penalty if you have to break the Mortgage