Dave Larock in Monday Interest Rate Update, Mortgages and Finances, Home Buying
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What a difference a few weeks can make to the outlook for Canadian mortgage rates.
In the middle of September, our benchmark five-year Government of Canada (GoC) bond yield had surged thirty basis points to 1.73%, hitting its highest level since July, 2013.The mortgage market braced for the first across-the-board hike in five-year fixed mortgage rates this year, but then in less than a month, five-year GoC bond yields plummeted to 1.38%, marking their lowest level since May, 2013.
This heightened volatility was essentially the bi-product of a particularly intense fight between fear and greed in the hearts and minds of investors. In today’s post, I’ll outline why greed won a battle or two, and why fear is still winning the war.
Let’s start with a reminder. GoC bond yields tend to move in the same direction as their equivalent U.S. bond yields over time, and that correlation has tightened further since the start of the Great Recession. Since then, GoC bond yields have followed U.S. bond yields in lock step. Given that, changes in the U.S. outlook, and in investor sentiment toward the overall strength of the U.S. recovery, cause a direct and significant impact on Canadian fixed mortgage rates.
In mid-September our bond yields were surging higher and this was primarily caused by the growing belief that the U.S. recovery had finally achieved sustainable momentum:
But then a funny thing happened. As the skies cleared and U.S. economic prospects improved, the Fed started to talk more about interest-rate normalization. Not surprisingly, markets started pricing in a more aggressive Fed rate-hike schedule, and as worries over the potential impacts of higher rates mounted, investor sentiment began to turn more cautious. This marked the re-emergence of a vicious self-reinforcing cycle that I have written about before. Basically, the Fed is caught in a trap where positive economic momentum heightens rate-hike fears, and those fears kill the very momentum that created them in the first place.
This cycle will be hard to break and that challenge is made all the more difficult when the rest of the world’s largest economies are still in bad shape:
Throw in all of the hype about Ebola which, while quite possibly overblown at the global level, is still weighing on our collective psyche thanks to fear-mongering news media, and it’s easy to understand why investors are having hard time keeping their courage up.
There is no denying that the U.S. economy has shown improvement of late, and against that backdrop, one could argue that U.S. bond yields should be higher. David Rosenberg estimates that at its current 2% level, the ten-year U.S. bond yield is “priced for 1% growth, no inflation, and a return to an 8% unemployment rate” (up from 5.9%, where it stands today). But upward pressure on U.S. and Canadian bond yields is being offset by a flight-to-safety premium that intensifies each time the economic clouds beyond our borders darken. These forces are counteracting each other and that is why our bond yields have returned to lower levels than might otherwise be expected.
Five-year GoC bond yields fell ten basis points last week, closing at 1.42% on Friday. Five-year fixed-rate mortgages remain in the 2.79% to 2.89% range, and five-year fixed-rate pre-approvals are offered at 2.99%.
Five-year variable-rate mortgages are available in the prime minus 0.65% to prime minus 0.80% range, depending on the terms and conditions that are important to you.
The Bottom Line: Over the past month, U.S. and Canadian bond yields spiked because of incremental improvements in the U.S. economy, and then plummeted when heightened global economic fears caused a surge in demand for safe-haven assets. For now, these forces appear to be balancing each other out, however precariously, and that explains why our fixed and variable mortgage rates remain at today’s ultra-low levels.
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, Move Smartly, and on his own blog: integratedmortgageplanners.com/blog Email Dave