Prime Rate has increased to 6.70%
As of 10 a.m. on January 25th, 2022, Bank of Canada announced its decision to again increase the Overnight Rate but this time around the increase was limited to 0.25%. After the recent softening in CPI (still not down to 2% levels), today’s announcement seems to indicate that Bank of Canada is reducing its pace of increase or increases might come to a halt. You can find the entire press release by Bank of Canada here.
The last paragraph of the press release has some important pointers to guide us… “If economic developments evolve broadly in line with the MPR outlook, Governing Council expects to hold the policy rate at its current level while it assesses the impact of the cumulative interest rate increases.”
But…. “Governing Council is prepared to increase the policy rate further if needed to return inflation to the 2% target, and remains resolute in its commitment to restoring price stability for Canadians."
With today’s increase, the Prime Rate will jump to 6.70% and since March 2022 (present rate hike cycle) Bank of Canada has increased the Overnight Rate and thereby the Prime Rate by a total of 4.25%. The immediate takeaway for those of you with a variable rate mortgage/ borrowing is that your interest costs continue to rise in the short term.
Depending on the kind of variable rate mortgage you have:
1. Your payment will increase as soon as the next scheduled payment date OR
2. The proportion of your interest costs will increase as compared to the principal being paid down with each payment (resulting in a longer amortization period). If it ends up that your payment is not able to cover the ongoing interest costs, your bank may soon be reaching out to adjust your payment / mortgage balance / convert to fixed.
Note: Prime Rate will increase to 6.70% at most lenders after this update (except for TD which should be at 6.85%). Review your lender/bank's commitment document to confirm which of the above payment scenario applies to your mortgage.
Over the last 6 weeks, the spread between fixed-rate and variable-rate mortgages has increased further with fixed rates being much lower than variable rate mortgages. This inversion (Fixed Rate being lower than Variable rate) has persisted for about 10 weeks now. In a normal rate cycle, such an inversion doesn’t persist for more than a few months (Check the graph below).
Fixed Rate Mortgages
As you know the Fixed-rate mortgages in Canada are priced off the 5-year bond yields and right now those bond yields are at 2.971%, about the same place where we were 8 weeks ago (3.057%). Since my last update, the yields saw a high of 3.434% on 29th December and a low of 2.733% on 18th January. As things stand today, yields are much below their peak of 3.896% (seen on 20th Oct 2022) and appear to be in a downward trend (monthly basis). However, it’s still about 2.75% higher than the lows witnessed in July 2020 when they stood at around 0.302%.
The lowest 5-year fixed for a purchase with a 20% downpayment and 25-year amortization is now in the range of 4.55% to 4.75% OAC (down by about 60~80 bps since Oct 2022). While an insured mortgage (less than 20% downpayment) can be secured in the range of 4.40% to 4.80% OAC (again down by about 35 ~ 50 bps since Oct 2022). For rental properties, the range is between 5.00% to 6.80% OAC (mixed trend, depending on the lender / your eligibility requirements, since Oct 2022). For the shorter term (1-3 year) mortgages, the rates have reduced marginally but still at a premium to 5-year rates. My recommendation would be to go with shorter term (1 or 2 year) over 5-year term despite higher costs in the near term.
If you had secured a mortgage pre-approval with Variable Rate mortgage, please note that the mortgage amount specified would NOT be valid anymore and so you need to check-in with your mortgage broker to confirm the revised amount. At current rates, you are bound to qualify for a higher mortgage going with a shorter-term fixed rate mortgage.
Should you panic if you are closing a purchase in 2023?
There is much talk about thousands of properties coming up for a closing (especially pre-constructions units) and how those buyers are desperate to sell. I also have a property which is coming up for closing and have given much thought lately on how to approach it. I have formulated a plan or rather set of plans depending on how the situation pans out and that is what I think most buyers should also do. Have you created such a plan for yourself? Give this article a read (here).
Navigating the current environment
As we begin the new year, the economic turmoil that we have been experiencing for a while appears to be changing its colour. Instead of just high inflation, we may be faced with the prospects of a slowing economy while still dealing with inflation which is at elevated levels. The central banks around the world have been aggressively increasing their policy rates, thereby increasing the cost of borrowing.
While nobody knows what the future holds, you need to be prepared if you are faced with the prospects of seeking a new mortgage, have a mortgage which is up for renewal or are struggling to make your mortgage payments. This article (here) is an attempt to provide you with some pointers.
How can you profit?
While all news stories appear to be all about financial doom and gloom, it does not necessarily mean that you personally are in trouble. It all depends on how you have managed your finances, what your personal income outlook is and what your needs or requirements are. For those of you who are thinking of the long term and are on a financially sound footing, the current setup can offer you bountiful opportunities. Stock markets are down (though 2023 seems to have started on a more positive note), bond prices are still low, Interest rates are higher (so fixed income is good) and real estate market is holding ground. This is probably the best time in a decade to find qualify assets (choose your pick) and buy them at a reasonable price. The icing on the cake is that you can do so while paying down your higher cost mortgage (on principal home) debt faster and get a bigger tax refund from CRA each year. Watch this video (here) to learn more!