Notwithstanding some additional rate hikes last week, fixed mortgage rates have seemingly plateaued following a stellar run-up over the past several months.
But where do they go from here?
As mentioned above, some lenders did continue to raise rates last week, including some of the big banks like BMO, RBC and National Bank. But, for the first time in months, a couple of national lenders actually lowered their 5-year fixed rates, albeit modestly, according to data from Rob McLister, rate analyst and editor of Mortgage Logic.
As a result, average discounted 5-year fixed rates among national lenders have only ticked up slightly since mid-May.
That’s caused some observers to suggest we may be close to a peak for fixed-rate mortgages.
“Anyone choosing a fixed rate today is accepting the risk that they may be locking in at or near the peak…” noted mortgage broker Dave Larock in a recent blog post.
That’s likely a reasonable expectation, according to McLister, who says we can look to the 5-year Government of Canada bond yield for guidance.
“Think of the 5-year bond yield as the expected average overnight rate over the next five years, plus a term premium (i.e., extra yield that investors demand to lend for five years, versus lending overnight),” he told CMT. “When 5-year yields got near 3% a few weeks ago, they fairly reflected the expected peak overnight rate at the time, based on all knowable information on inflation, market risk, and so on.”
With markets expecting a 3% Bank of Canada overnight rate, McLister says it’s reasonable to assume the 5-year yield won’t surge “significantly” above 3%, “unless, for example, the market feels it must reprice inflation expectations much higher.”
While that can’t be ruled out, McLister says that’s not where the market’s head is at now. “At the moment, yields are sliding in the short-run as people buy bonds for insurance against other risks (e.g., stock market risk, recession, etc.),” he said.
Don’t read too much into ‘micro-trends’
Some of the recent increases in fixed mortgage rates can be attributed to higher risk premiums being charged by lenders, particularly the monolines who rely on capital markets to fund their A-lending, explains Ron Butler of discount mortgage brokerage Butler Mortgage.
“They [the monolines] work directly with a capital markets division of a bank, and the capital markets division layers on credit risk premiums,” Butler told CMT. “So in other words, if there’s a war on in Ukraine and Putin’s talking about nukes, then there has to be an additional layer of cost associated with it to guard against rate fluctuation.”
The big banks are less affected, particularly for their conventional mortgages, since they can rely on their vast source of deposits to help fund new mortgages, Butler noted.
While the current heightened level of global and domestic risk—from war and food shortages to inflation and supply disruptions—has helped contribute to higher rates, it also makes forecasting future rate moves more difficult, if not impossible, Butler adds.
“Yes, there has been a tiny sliver of hope for fixed rates, but it’s uncertain,” he said, adding that record-high inflation is one of the biggest wildcards.
“We’re trying to make an economic decision about our whole rate structure and the possible future of mortgage rates out of a micro-trend,” he said. “But here’s the ultimate truth. Once the rate-hike cycle is finished for variables, every single rate in this country will have doubled over the course of 12 months.”
What to do if you want a fixed rate?
That may be a hard pill to swallow for new homebuyers in the market for a mortgage.
That’s why, given today’s wide spread between fixed and variable rates, and the mortgage stress test making qualifying for a variable rate easier (for now), over 50% of new mortgage borrowers are now choosing variable rates.
But the playing field is about to shift over the coming months, with markets anticipating a 50-bps rate hike by the Bank of Canada in June followed by a similar hike in July.
For those still wanting the stability of a fixed rate, this likely isn’t the time to take out a 5-year fixed term, notes McLister.
“Those with shorter-term financing needs, or those wanting a better alternative to a variable, would do well to look at 1-year rates near 3%,” he said, adding that 5-year fixed rates in the mid 4s model out poorly compared to shorter-term fixed rates.
“The reason is simple: the market expects a central bank mistake that could necessitate rate cuts within 3-4 years,” he said. “That implies decent odds that you’ll do better with back-to-back shorter terms, which could add up to a lower weighted average rate over five years.”