The good news is that mortgage rates are unlikely to go higher this year in Canada. The bad news is a lack of interest rate hikes indicates the Canadian economy is slowing down.
So says mortgage broker David Larock, president of Integrated Mortgage Brokers in Toronto.
If mortgage rates go higher, it would likely indicate the economy is on the upswing “and I don’t think the economy is going to improve,” Larock says. His best guess is that five-year fixed and five-year variable mortgage rates will be lower in 12 months.
Larock says many forecasters predict that the long U.S. economic expansion is due to end soon. If the U.S. and Canada get hit with a recession this year, mortgage rates are almost certainly headed down, as rates historically fall during a recession.
Interest rates have been hiked five times by the Bank of Canada since July 2017 but indications are that rate hikes may not be on the horizon this year.
The central bank estimates that it can take anywhere from 18 to 24 months for the rate hikes to work their way into the economy. This means “the impact of all the rate hikes is just now starting to kick in” and the economy will continue to feel the impact of those rate increases until late 2020.
In addition, if the U.S. economy slows or hits recession, the U.S. Federal Reserve will have to reverse course with interest rates and is “already starting to sound like it may well do that.” In late January, the Fed indicated that it does not anticipate any additional rate increases in the immediate future.
“If the Fed lowers rates, the Bank of Canada simply has to follow,” Larock says. That’s because if the Fed cuts rates and the Bank of Canada holds steady or raises them “the loony will soar against the greenback and that will hammer our exporters.”
When it comes to mortgage terms, Larock says there is not much of a discount for opting for a short-term fixed mortgage of one or two years instead of a five-year fixed. “It really only makes sense to go with a shorter-term fixed rate if you’re getting paid a big discount.”
He adds there is no one-size-fits-all answer when it comes to deciding whether homeowners should opt for fixed versus variable mortgages – it really depends on their specific situations.
While borrowers pay a premium for fixed-rate mortgages, rate stability comes with that premium, he says. “I look at it as buying rate insurance to go with a five-year fixed instead of a five-year variable.”
Variable rate mortgages make more sense for more established buyers who are comfortable with fluctuating payments and have incomes that could comfortably cover any changes in payments, he says.
As for which option – variable or fixed – will prove to save money in the next five years, Larock’s bet is variable. But he says the savings won’t be as compelling as they have been in the past.
Frank Napolitano, a mortgage agent and founder of Mortgage Brokers Ottawa, agrees with Larock that the Bank of Canada will be “hard pressed” to continue to raise rates this year. “It would do way more damage to the economy than good.”
Napolitano says current choices for a five-year variable rate mortgage “are extremely attractive,” with some lenders offering rates at prime minus 1.1 points (or 2.85 per cent in late January).
However, “everybody has their own risk tolerance” and it is probably a bad idea to push someone who is extremely conservative into a variable mortgage “because they’re going to be nervous the entire time.”
About 35 to 40 per cent of his clients are opting for five-year variable terms, Napolitano says.
He says while mortgage rates have increased since 2017, the biggest obstacle to home buyers is the mortgage stress test, which makes it harder to qualify for mortgages.
“We’re seeing more than ever the mom and dad bank having to help out with the down payment or, in way more cases than we’d like to see, the parents have to co-sign with their kids to be able to afford the mortgage.” Many of these home buyers would have qualified before the stress test was introduced, he says.
Several lenders outside of the Big Five banks, such as First National, are offering alternative products for people who do not qualify for traditional mortgages under the stress test.
But these secondary mortgages are generally not for first-time home buyers, Napolitano says. They are better geared to people who have saved enough to pay a 20 per cent down payment but are self-employed and don’t qualify with their banks or couples going through a matrimonial breakup. “That’s what we’re seeing a lot of.”
According to a report by Will Dunning, chief economist at Mortgage Professionals Canada, last year’s reduction in the Canadian housing market due to interest rates was worse than it should have been, mostly due to mortgage stress tests.
He notes the resale housing market remains depressed and does not expect an imminent recovery to normal levels. Large and growing numbers of young, middle-class Canadians will be denied the opportunity to build their financial futures through home ownership, Dunning says.
However, the majority of borrowers who expect to renew their mortgages in the near term will experience little change or mortgage cost increases that they can afford, Dunning writes. His data suggests that a very small minority of mortgage borrowers (perhaps one per cent or about 50,000 out of six million mortgage holders) will face substantial and challenging cost increases this year.