Variable mortgage rates are no longer as attractive
Garry Marr Dec 17, 2011 –
The days of getting any sort of discount on a variable rate mortgage are over — again.
Those mortgages, tied to prime, have become a mainstay of the housing market. And, why not? While prime has stood at 3% at most major financial institutions, the discount has meant a rate as low as 2.1% at times this year.
However, in the last 10 days what was left of that discount — it had already been shrinking for weeks — has disappeared at all of the major banks.
You have to head back to the credit crisis of 2008 to find a similar period where the discount disappeared. At the time, consumers were paying a 100 basis point premium above prime for the privilege of a floating rate.
The new reality is expected to reshape the mortgage market in the coming months, reversing a strong trend that had seen consumers roll the dice on interest rates, confident in the belief they were not going up.
How confident were they? Well the Canadian Association of Accredited Mortgage Professionals says 37% of consumers opted for variable rate mortgages over the last year, bringing the total percentage of those with a floating rate to 31%.
To be clear, anybody with an existing mortgage is unaffected until they renew. Why would you want to renew early or lock in if your present rate is 2.1%?
“If you have three and half years left on that term you are not going to give it up,” said Vince Gaetano, of Monster Mortgage, adding you can borrow at 3.29% if you lock in for five years or 3.09% for four years. “The last decade I’ve been telling people to go variable but I’m saying go fixed [for new clients].”
The other key advantage for a term five years or longer is you get to use the rate on your contract to qualify for a mortgage as opposed to the current five-year posted rate of 5.39%. The difference means you’ll qualify for a larger loan by locking in.
“People are being heavily compelled to lock in,” says Doug Porter, deputy chief economist with the Bank of Montreal, in talking about the negligible spread between short and long-term money.
Will Dunning, an economist CAAMP, said his group was not surveying consumers the last time short-term rates climbed like this so he can’t be sure what the reaction will be this time around.
Meanwhile Farhaneh Haque, director of mortgage advice and real estate secured lending with TD Canada, says she’s already seeing the effects as people shy away from variable. Her financial institution is not offering any discount at all on prime these days, a move necessitated by rising borrowing costs for the bank.
“I think there is a whole different conversation that we are having now than we were a few years ago,” says Ms. Haque, adding at today’s rates fixed products have their own attraction. “The stability it offers with a low rate makes it more affordable.”
While Benjamin Tal, deputy chief economist with CIBC World Markets, doesn’t think variable rates premiums will rise above prime, the drop in the discount we’ve seen in the last few months could impact on the housing market.
In particular, the condominium market seems the most vulnerable as investors trying to stay cash flow positive — virtually impossible in Toronto’s current condo market based on rental rates and the costs of carrying a mortgage with a 25% down payment. Investors have opted for the cheaper variable rate products in an attempt to keep costs down as they waited for a payday based on capital appreciation.
“You know 80 basis points below didn’t make much sense either. I think variable at prime is the new normal. They won’t go higher unless we get a new crisis,” says Mr. Tal, adding banks were not making much money on variable with the steep discounts so they backed away from them.
Mr. Tal’s information points to the record high for variable rate products being driven by investors and he thinks the new rates will hit that segment of the market
“I think you will see an impact on the investor market in the next six months. The shift hasn’t happened yet,” says Mr. Tal.