Variable-rate borrowers are now caught up in the fastest rate hike cycle since the 1990s.
And the Bank of Canada made their life even more unpleasant Wednesday by boosting Canada’s key interest rate another 50 basis points.
If bond market projections are right, mortgagors with floating rates may have to endure another 50 bps rate bump at both the July 13 and Sept. 7 central bank meetings. And likely another 50 bps more by Dec. 7. (There are 100 basis points, or bps, in a percentage point.)
By the end of 2022, the prime rate could potentially be almost three percentage points higher than in February.
The blow to mortgage payments
Effective Thursday, prime rate will climb to 3.70 per cent at most lenders.
For someone in an adjustable-rate mortgage (ARM), their payment will jump about $24 a month per $100,000 of balance, assuming a 20-year remaining amortization.
For folks with a variable-rate mortgage (VRM), payments won’t change at all – but they’ll pay more interest and less principal going forward.
Side note: Variable mortgages have fixed payments. ARMs do not. But it gets confusing when some lenders call their floating-rate mortgages “variable” even though they’re really “adjustable.” I can’t tell you how many people I’ve spoken with who thought their ARM had fixed payments – or who didn’t know their “variable” payments could change.
More rate-aches ahead
Our central bank says “inflation continues to broaden” and “will likely move even higher” before “easing.” It adds that “the risk of elevated inflation becoming entrenched has risen” amid “widespread labour shortages” and “broadening” wage growth.
Those worrisome statements, along with record-low unemployment, healthy consumer spending and the bank’s continued underestimation of inflation, has the bond market frazzled.
Investors were so worried that they drove up Canada’s five-year bond yield 13 bps on Wednesday, despite the central bank’s rate hike of 50 bps being expected for weeks. Rising yields could push five-year fixed rates closer to 5 per cent this month.
Impact on mortgage approvals
The government’s mortgage “stress test” formula currently makes it easier to get approved for a variable-rate mortgage than a more conservative five-year fixed mortgage. In fact, choosing a five-year fixed limits your theoretical buying power by almost 10 per cent relative to a variable rate.
That’s bad policy and I expect the government will address this design flaw soon.
If you have an ARM and want to keep paying the same amount of principal as you did before Wednesday’s hike, simply call your lender and ask them to raise your payment. But note, many lenders limit you to one payment increase per year.
CMHC shifts downside risk to first-time buyers
The government’s idea of “shared equity” is changing, at least with respect to its much-maligned First-Time Home Buyer Incentive (FTHBI).
CMHC quietly announced Wednesday that it will “limit its share in the depreciation of a home … to a maximum loss of 8 per cent per annum” for users of its shared-equity scheme. (It hasn’t had a limit until now.)
The government seems anxious to limit potential losses from the FTHBI as home values face their biggest potential decline in years. Canada’s head banking regulator, Peter Routledge, told the podcast Herle Burly in February that some real estate markets could sell off as much as 20 per cent.
“My primary reaction to the news is it will only serve to make participation rates in the program even lower,” said Paul Taylor, chief executive of Mortgage Professionals Canada. “I’m also disappointed CMHC would announce the changes on their effective date. To make this change with effectively no public lead time feels very poor.”
CMHC also said it would cap its share of home price gains to 8 per cent after “feedback from Canadians.” But which do you think is more likely in the next 12 to 24 months, a 10-per-cent to 20-per-cent further gain in national average home prices or a 10-per-cent to 20-per-cent correction? I’ll have more on this next week.
Mortgage rates this week
Perhaps it’s the quiet before (another) storm but rates barely moved this week. On a national basis, the lowest uninsured one- and four-year fixed rates jumped 10 bps, but that’s about it.
With this week’s increase in prime rate, the average discounted variable mortgage rate among national lenders will climb to approximately prime minus 0.60 per cent, or 3.10 per cent.
You can still find online brokers with one-year terms at 2.99 per cent (insured) or 3.29 per cent (uninsured) – a decent play given the potential for another 150-plus bps of hikes by year-end.
According to a new CIBC poll, 36 per cent of folks in a variable rate “say they are likely to switch to a fixed rate in the next 12 months.” That’s probably not a good idea, at least to the extent they switch to a five-year fixed. When fixed rates soar 250 bps, history suggests a high probability of reversal within two to three years. Albeit, probability is not certainty: The 1973 to 1981 period showed us that history doesn’t always repeat.
Rates are as of Wednesday from providers that advertise rates online and lend in at least nine provinces. Insured rates apply to those buying with less than a 20 per cent down payment, or those switching 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. For providers whose rates vary by province, their highest rate is shown.
Thanks for reading Mortgage Rundown, a quick take on Canada’s home financing landscape from Robert McLister, an interest rate analyst, mortgage strategist and editor of MortgageLogic.news. You can follow him on Twitter at @RobMcLister.