Toronto-Dominion Bank is the first major Canadian lender to lower its posted rate for five-year fixed rate mortgages amid falling bond yields.
TD, Canada’s second-largest mortgage lender, cut its posted rate on the popular five-year fixed term as federal officials and banks continue to face pressure to ease the burden that Canada’s mortgage stress test puts on borrowers.
On Tuesday, TD lowered its posted five-year rate to 4.99 per cent from 5.34 per cent, and also cut its special rate on the same loan – which is closer to what most borrowers actually pay – to 3.09 per cent from 3.2 per cent.
The cost at which banks can borrow funds to make mortgage loans has fallen sharply as bond yields decline. Unease over the coronavirus outbreak, along with heightened geopolitical tensions between the U.S. and Iran, have dented confidence in economic growth, pushing more money into the bond market, sending yields lower as prices rise.
Canada’s five-year bond yield – which influences mortgage rates – dipped from 1.7 per cent at the start of the year to below 1.3 per cent this week. That has given banks breathing room to tweak mortgage pricing as the competitive spring housing season approaches.
“What’s happening right now is the cost of funds in Canada is dropping," said James Laird, co-founder of Ratehub Inc. and president of mortgage brokerage CanWise Financial. “What caused them to move is really competition.”
Other banks are expected to respond to TD’s new posted rate soon. “My guess is that some of the other banks will probably follow in relatively short order," said Robert McLister, a mortgage broker and founder of the website RateSpy.com.
Concerns around the economic fallout from the coronavirus outbreak could have contributed to falling bond yields. “The Wuhan virus has struck, and we’re all still working through our spreadsheets trying to sort out the exact implications, but it’s pretty universally acknowledged that it’s negative," said Eric Lascelles, chief economist at RBC Global Asset Management.
Yet there may be another factor driving TD’s cut to its posted rate: The federal stress test that has made it increasingly hard for borrowers to qualify for mortgages. In late January, a senior official at Canada’s banking regulator called out the widening gap between actual rates paid by borrowers and a benchmark rate published by the Bank of Canada, which is derived from the Big Six lenders’ posted rates and used to calculate the stress test.
Posted rates are typically much higher than what most borrowers pay, but are important to the way lenders calculate penalties for borrowers who break their mortgages early.
The stress test compels banks to ensure their customers could still make their mortgage payments if interest rates rise higher, either by adding two percentage points to their real mortgage rate, or by using the Bank of Canada’s five-year benchmark rate for mortgages – whichever is higher.
As actual mortgage rates have fallen, the large banks’ contract rates stayed stubbornly high: Posted five-year fixed rates at most Big Six banks are still 5.19 per cent, and until Tuesday, TD’s was even higher. As a result, the benchmark “is not playing the role that we intended" when applied to the stress test, said Ben Gully, assistant superintendent at the Office of the Superintendent of Financial Institutions (OSFI), in a recent speech that may have served as a warning shot to banks.
“Today, I think the pressure on banks to cut their five-year posted rate is considerable," Mr. McLister said. “You’ve got OSFI, the regulator, drawing attention to the fact that their five-year posted rates have been inflated, and you’ve got funding costs plummeting."
TD spokesperson Ana Aujla said in an e-mail that “current market conditions” have created “lower funding costs,” which “led to a growing variance in customer rates versus posted rates." Tuesday’s cut to the bank’s posted rate “aligns TD’s five-year fixed posted rate more closely with current customer rates," she said.
Bond yields started to tumble in the fall of 2018 as central banks hit pause on tighter monetary policy, with many opting to cut interest rates in 2019 to help counter sluggish growth prospects. Canada’s five-year bond yield fell from 2.5 per cent to below 1.2 per cent by last August and some five-year fixed mortgage rates fell more than a full percentage point.
That helped to ignite a slower real estate market. Home sales picked up in the second half of 2019, particularly in Toronto and Vancouver, as consumers ramped up their borrowing. Mortgage credit increased 4.9 per cent in December from a year ago, the quickest pace since March, 2018, according to recent Bank of Canada figures.
But the mortgage qualifying rate – what’s used in stress tests – hardly budged over the same period. It dropped to 5.19 per cent from 5.34 per cent last July, when five-year bonds sat at 1.4 per cent. Even as bond yields fell further, the country’s big banks kept their posted rates elevated.
Royal Bank of Canada, the country’s largest mortgage lender, reduced its special five-year fixed rate to 3.09 per cent last week. But RBC did not cut its posted rate for the same mortgage, which is still 5.19 per cent. The bank changes its prices “to reflect market conditions,” spokeswoman Jill Anzarut said in an e-mail.
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