Dave Larock in Monday Interest Rate Update, Mortgages and Finance, Home Buying, Toronto Real Estate News Editor's Note: Dave's Monday Morning Interest Rate Update appears on Move Smartly weekly. Check back weekly for analysis that is always ahead of the pack.
Last Friday’s Canadian employment data came in much lower than most economists had predicted. In fact, the latest consensus jobs forecast would be the equivalent of calling for sunny skies and getting a torrential downpour instead.
Here are the highlights, or more aptly put, the lowlights from our latest employment data:
- The Canadian economy lost 9,400 jobs in June - nowhere near the 20,000 new jobs that the consensus had called for.
- Some analysts are saying that the silver lining in the latest report is that while we lost 43,000 part-time positions for the month, we added 33,500 full-time positions. I would call that a reach when you consider that we lost a total of 60,000 full-time jobs in April and May, leaving our economy 30,000 full-time jobs lighter over the second quarter of 2014.
- Most of the newly created jobs have been in part-time positions during the past year, and the majority of job growth over this period has been in either the public sector or in ‘self-employment’ (which is considered a soft job category because it often includes workers who are actually in the midst of a job transition). On an overall basis, our economy needs to add about 20,000 new jobs each month in order to keep pace with our population growth, and we have averaged about 6,000 new jobs per month over the past year.
- The continued erosion of our manufacturing sector is of particular concern. We lost 10,600 manufacturing jobs in June, and Ontario was hardest hit, shedding another 13,600 manufacturing jobs over the month.
- Economist David Rosenberg observed that the ratio of manufacturing employment in Canada relative to the U.S. sank to its lowest level in thirteen years in June, and BMO economist Doug Porter noted that Ontario manufacturing employment has now shrunk to its lowest level since 1976. As a reminder, manufacturing jobs are of particular importance to our economic health not only because they trigger a powerful multiplier effect, which spurs job creation across our broader economy, but also because they tend to be higher paying.
So what do our latest employment data mean for Canadian mortgage borrowers?
Last week’s employment report had the potential to be a tipping point for fixed mortgage rates. The recent surge in our inflation, combined with gathering U.S. employment momentum, was beginning to undermine the prevailing view that our mortgage rates would stay low for the foreseeable future. If our latest employment headline had come in at the 20,000 net new jobs that the market was expecting, I was concerned that our bond yields, and by association our fixed mortgage rates, were poised to move sharply higher.
There was even more at stake because a strong employment report would have tested the credibility of Bank of Canada (BoC) Governor Poloz, who has successfully used rhetoric about slack in our labour market and our slow rates of overall economic growth to talk the Loonie down of late. He did this to give our export-based manufacturers a competitive boost and it appeared to be working, although more slowly than he might have liked.
With the BoC’s next policy announcement scheduled for this Wednesday, there would have been no time for the emergence of other data that would give Mr. Poloz justification for maintaining his dovish interest-rate view. His choice would have been either to acknowledge that increasing employment momentum might alter the timing of the BoC’s next rate increase, which would have pushed the Loonie higher, or to maintain a dovish view in the face of increasingly compelling data to the contrary, which would have undermined the credibility of his future guidance.
At least in that regard then, problem solved.
The latest employment data confirm that the U.S. and Canadian economies continue to move in opposite directions. Furthermore, the continued erosion of our manufacturing sector now calls into question the widely held belief that a strengthening U.S. economy will provide its usual lift to our own. Both the BoC and most Canadian economists have built their more optimistic forecasts on this fundamental assumption. Instead, we may now increasingly hear talk about the risks of stagflation, a phenomenon where high inflation combines with high unemployment levels and stagnant economic growth. At the very least, the BoC is now expected to significantly lag the U.S. Fed whenever the next round of short-term rate increases eventually materialize.
To be clear, none of these latest developments change my belief that five-year fixed rates are a better option than five-year variable rates for most borrowers in the current environment. That’s because my view is primarily based on the fact that the spread between fixed and variable rates is now about 0.50%, making the small current saving that can be gained by taking a variable rate not worth the risk that it could rise materially higher at some point over the next five years. At a very basic level my thinking can be summed up with a phrase (and truism) that has been passed down from the thirteenth century: “A bird in the hand is worth two in the bush.”
Five-year Government of Canada bond yields fell by eight basis points last week, closing at 1.53% on Friday. Five-year fixed-rate mortgages are available in the 2.79% to 2.99% range and five-year fixed-rate pre-approvals are offered at rates as low as 2.99%.
Five-year variable-rate mortgages are available in the prime minus 0.75% to prime minus 0.60% range, depending on the terms and conditions that are important to you.
The Bottom Line: I continue to recommend five-year fixed rates over five-year variable rates for most borrowers in the current environment. This view is not based on the belief that our variable rates are headed higher any time soon, but rather on my estimation that on balance, the small added cost of locking in a fixed rate is more compelling than the risk/reward trade off that is inherent in any variable-rate option.
David Larock is an independent mortgage planner and industry insider specializing in helping clients purchase, refinance or renew their mortgages. David's posts appear weekly on this blog (movesmartly.com) and on his own blog integratedmortgageplanners.com/blog. Email Dave