Unlike variable rate loans which take their cues from the Bank of Canada’s benchmark rate, lenders finance fixed-rate loans based on the rates they can get in the bond market. Essentially, they’ll borrow money themselves at one rate, loan it out to a borrower at a higher rate and make money on that spread.
So current rock-bottom interest rates on fixed loans are no coincidence, considering the yield on a five-year Government of Canada bond dipped below 1.3 per cent this month. If a lender can borrow funds for as little as 1.3 per cent then turn around and make money by loaning it out for twice that rate, they have every incentive to keep offering those deals.
“The hard cost of funding these loans is going down,” Laird said. “And at the same time we are at the tail end of the most competitive market, when lenders fight for [business], so that’s when they are willing to thin out their margins a bit to attract volume.”
Less popular loans
Variable rate loans are also sliding lower, too.
Most borrowers prefer the peace of mind of fixed rate loans, but lenders can tempt borrowers to variable rate loans with even better rates — even if they’re only temporary.
Laird says typically it takes a spread of about a full percentage point to entice most people to make the leap. Which is why those loans are even less popular than usual because that premium has almost completely vanished.
He says the best variable rate loans are about 2.65 per cent at the moment, which is barely better than the fixed rate, for a lot more risk.
Anyone signing up for that loan today is “assuming the Bank of Canada is going to be forced to drop their rate once or twice. That would be the only way to justify taking it,” he said. The bank’s benchmark rate is 1.75 per cent.
Trading in investments known as overnight index swaps suggests investors think there’s about a 50 per cent chance of a rate cut by the central bank this year — but two would be very unlikely, and never mind any more beyond that.
Lower rates could be good news for those who’ve already bought, too.
1 in 6 mortgages up for renewal
A recent report by National Bank found that a little more than one out of every six mortgages in Canada is up for renewal this year, and as recently as January the bank was calculating that most of them could expect to be paying between 70 and 90 more basis points on their next loan than they were on their current one. (A basis point is 1/100th of a percentage point, so a jump of 70 basis points would be a loan that went from 3 to 3.7 per cent, for example.)
But thanks to the steep slide in mortgage rates since the start of the year, most people with loans up for renewal now have no need to fear a big jump in their rate when the time comes.
“With the recent drop in mortgage rates, those households will be renewing at rates barely above their previous ones,” National Bank economist Matthieu Arseneau said.
Laird doesn’t see anything on the immediate horizon that could derail the era of lower rates, but he does think the federal election in October is worth paying attention to for how it relates to housing.
Housing policy is bound to come up on the campaign trail, and he expects to hear a lot of talk about changing stress test rules and extending amortization periods in the coming months.
But until that happens, Laird’s expectations for the mortgage market can be summed up succinctly: “Pretty cheap money.”