Canadian mortgage rates rose last week as a result of one large lender raising its rates, setting a trend that the industry followed. This is a cycle we’ve seen several times. These movements have shrunk average five-year variable rate discounts from prime minus 0.6% to prime minus 0.4% and increased five year fixed rates from 2.59% to 2.79%.
Here are some points to consider about recent mortgage rate increases:
A) Lenders’ funding costs have risen over time. The gap between government debt and the funding vehicles lenders use to raise capital has widened as more risk has been assigned to these types of credit. The increase is relatively small and the spreads associated with residential mortgage funding vehicles are still miniscule when compared to the spread swaps on most other forms of credit.
B) Lenders are capped on the amount they can securitize into the Canada Mortgage Bond (CMB) program, which is their preferred funding vehicle. When lenders hit their CMB limit they must move to other, often more expensive, sources of capital. While lenders can raise rates to cover higher funding costs, they may also absorb them temporarily to remain competitive, as not all lenders will hit their limit at the same time. If competition raises rates, then others will likely be quick to match
C) In Spring, when competition is fierce, lenders price their rates aggressively. Later in the year, especially when lenders have exceeded their volume, (almost all have this year) they are likely to take some of the extra spread they sacrificed to Spring market promo pricing, even if it costs a bit of incremental volume in the end.
Lenders shrank their five-year variable rate discounts in October when Banker’s Acceptance rates rose in the face of higher perceived credit risk. Market wide rate increases have been championed by major Canadian banks, as both TD and Scotiabank have taken turns leading the market higher. That’s the reason it’s difficult to predict how lenders will react when a large lender raises rates. Without access to those boardrooms, it’s difficult to anticipate who will move, why and how much.
The bottom line is that mortgage rates moved higher again last week, but not because of Government of Canada bond-yield movements or market reaction. Instead these rates were triggered by the culmination of the different factors covered above. This does not mean that rates will continue to rise for these reasons, however…
If the U.S. Federal Reserve raises interest rates next month, Canada’s fixed-mortgage rates could rise by another 60 to 70 basis points, estimates Toronto-Dominion Bank economist Diana Petramala.
The Good News and Bad News of Higher Interest Rates
So what does all this mean for us in relocation?
It has been some time since Canadian relocation has operated in an environment of rising interest rates. But this does bring a few by-products worth noting, some positive, some negative, for Canadian relocation specialists.
The first good news:
For those who still cover the cost of mortgage discharge penalties (even when the mortgage is portable), you are more likely to see people porting their mortgages, thereby reducing the number of instances of mortgage discharge penalty coverage.
The second good news:
The total number of interest rate differential mortgage discharge penalties will also be reduced. As you likely know there are two types of mortgage discharge penalties:
1) three months interest equivalent
2) interest rate differential. Interest rate differential penalties can be very large and are premised on replacing the remaining term of a mortgage with a high interest rate (the discharged mortgage) with a lower interest rate (new mortgage at destination). The differential is charged to the homeowner. With a rise in interest rates, the total number of instances of interest rate differential penalties should be reduced.
The first bad news:
It will be harder for employees who are moving from low cost centres to higher cost centres to match the origin location housing lifestyle. Unless supported by subsidies, transferees have always faced the challenge of obtaining comparable housing in a higher cost centre. However, low interest rates and or possible pay increases have made this both possible and palatable in the past.
It likely comes as no surprise to any relocation professional that someone moving from location A to location B for inferior housing with a more challenging commute is not popular! However, if those transferees make that relocation within an environment of increasing interest rates, the ability to obtain comparable housing can be dramatically decreased. This can create a mobility barrier for some employees or cause more stressful relocations, with transferring families working extra hard to maximize the sales of their origin home and minimize the pain of buying in the new location.
The second bad news:
National home sales are driven down by interest rate increases. For instance, Toronto-Dominion Bank economist Diana Petramala notes that a US Fed rate increase could drive down national existing-home sales by as much as 10 to 15 per cent over the following six months. Smaller buyer pools mean tougher markets in which to sell a home. For those with Guarantee Home Sale policies, this means greater dissatisfaction with lower appraised values and more inventory acquisitions. For those without Guarantee Home Sale policies, greater relocation dissatisfaction, protracted relocation periods with increased temporary living periods.
Review your relocation policies and locations to see how you might be affected.