The past twelve months haven’t been too kind on people with variable rate mortgages. Since July 2017, there have been 4 increases to the national interest rate. With each accounting for a 0.25 per cent increase, rates have gone up a whole per cent since last July.
The relationship between the Bank of Canada policy rate and the rates that we have access to as customers is a little different. The best rate that a bank will typically offer is called their “prime” rate. Usually, when the Bank of Canada raises their interest rate, the banks raise their prime rate a few days later.
The Bank of Canada’s main mission is to "to promote the economic and financial welfare of Canada." One of the tools they have at their disposal is the ability to raise and lower interest rates. When rates are low, it stimulates spending, and when rates are high, it encourages saving. In theory.
We’ve seen how low rates can increase spending. Canada has had rock-bottom rates for over a decade. The rate was below 1 per cent from March 2009 until just this January, where it crept up to 1.25 per cent.
In that time, Canadians managed to rack up an impressive amount of debt. 12 per cent of Canadian households have debt-to-income ratios of 350 per cent. With 15.4 million households in Canada, that means 1.8 million households have critical levels of debt.
There have been several measures put in place by the Canadian government to try and curb taking on more debt. One of them was the stress test, which forces Canadians to qualify for a mortgage 2 percentage points higher than their contracted rate to prove they can afford rising rates. Raising interest rates is another way to regulate debt and inflation.
The Bank has publicly stated that the huge amount of household debt is making them take a “careful approach” when raising interest rates. It’s necessary to combat inflation, but every increase brings at least some Canadians closer to insolvency.
We can see this careful approach in the data. The last policy rate increase occurred in July, 2018. The one before that was six months earlier, in January.
The Bank of Canada makes 8 announcements every year on the direction rates are going – those are the dates in the picture above. Whether the rate goes up, down, or stays the same, we’ll have to wait until an announcement date to find out.
There are typically signs that expert economists notice before a rate change. Things like increasing debt, mortgage industry slowdown, rising inflation and even US economic policies can make it harder for the Bank to keep rates low.
Of course, no one but the bank knows until the date of the announcement, so any expert opinions will have to be taken with a grain of salt. But if you look at this article from late June, 2018, you’ll see that they accurately predicted the July rate hike (with 70% certainty). So what are the experts predicting this time?
There are 3 interest rate announcements left this year in September, October and December. BMO is predicting that there will be at least one more rate increase before the year is out. The Financial Post also agrees and suggests October as the hike month.
On the other hand, we have the CBC commenting on how Stephen Poloz, the governor of the Bank of Canada, is hinting he might raise rates sooner than needed. Here’s a telling quote from his presentation at the Kansas City Economic Policy Symposium: “"Importantly, this approach does not mean keeping interest rates unchanged until inflation pressures emerge."
In an earlier post I wrote about how interest rates follow a sine-wave pattern – they trend up for a while, then they trend down for a while. With many experts agreeing on an imminent rate hike, we’re likely still in the “trending up” phase.
It’s very likely we’ll see a rate increase this year. While the consensus seems to be leaning towards an October increase, Poloz’s latest speech throws that into question.
The current difference between the best 5-year fixed rate and the best 5-year variable rate right now is 0.80%. The spread is important, because that’s where you’re saving money by choosing a variable mortgage. With a prime minus 0.8% rate, rates will have to increase four times in order for you to be paying more than a fixed rate. Since it took a year for four increases, you could end up paying more than a fixed rate rather quickly.
However, if rates rise over a few years rather than one, you can still come out ahead – even if your rate ends up higher. That’s because you’ve paid less for a long period of time and have already locked in your savings. If push came to shove, you could always refinance after a few years.
A variable mortgage is not for everyone. If you feel anxious about the possibility of rising rates, then it’s better for your mental health to just get a fixed mortgage and lock in your rate. That way you won’t have to constantly worry about it.