Fixed vs Variable Rate Debate
I have received a lot of questions regarding the difference between fixed and variable rates. What are they based on? Do they both move at the same time? Why is it harder to qualify for a variable? All great questions, and all questions that you need to be clear on before signing into a mortgage contract. Fixed mortgage rates follow the pattern of Canada Bond Yields, plus a spread, where bond yields are driven by economic factors such as unemployment, export and inflation. Variable mortgage rates are driven by the same economic factors, except variable rates fluctuate with movements in the prime lending rate, the rate at which banks lend to their most credit-worthy customers. Variable mortgage rates are typically stated as prime plus/minus a percentage discount/premium. For example, a variable rate could be quoted as prime - 0.8%. So, when the prime rate is, say, 5%, you will pay 4.2% (5%-0.8%) interest.The Bank of Canada adjusts the prime rate depending on the state of the economy, as determined by the economic factors introduced above. Together, combinations of unemployment, export, and manufacturing values shape the inflation rate. Generally speaking, when inflation is high, the Bank of Canada will increase the prime rate to make the act of borrowing money more expensive. Conversely, when inflation is low, the Bank of Canada will decrease the prime rate to stimulate the economy and improve the attractiveness of borrowing.In terms of the discount/premium on the prime rate applied to variable rates, mortgage lenders set this based on their desired market share, competition, marketing strategy and general credit market conditions. These are the same factors that drive the spread between lenders' fixed mortgage rates and bond yields.Qualifying for fixed and variable rates has changed over the last couple of years. Before I break down the differences in qualifying, let's talk about the Benchmark rate in Canada. The benchmark rate is a rate that lenders are required to use to qualify mortgage borrowers in Canada who want a variable rate mortgage or a fixed mortgage term of less than 5 years.The purpose of using a qualifying benchmark rate is to ensure that those who qualify for a mortgage in Canada can qualify with breathing room. In the event of a downturn in the economy or increase in rates down the road, this prevents Canadians from becoming orphaned homeowners without a lender willing to assist them. We are in an era of all-time low interest rates, so the sad reality is they have nowhere to go but up. Purchasing a home at a rate of 2.99% looks amazing today, but the payments can be substantially higher when you renew in five years at 5.5%. This is something referred to as 'Payment Shock'. (To be discussed in an upcoming newsletter... hint hint, watch for it!) Our Minister of Finance, Jim Flaherty, deemed it necessary that all fixed 1, 2, 3, and 4 year, and all variable mortgages qualify at the benchmark rate. The benchmark rate in Canada is currently set at 5.34%. This translates to buyers affording less because of inflated interest rates that act as a safety net.The only way to avoid qualifying at the Benchmark rate is to opt into 5 to 10 year fixed terms. These terms allow you to qualify at the contract rate (the rate being offered by your Mortgage Advisor). The difference in the contract rate and the benchmark rate can be very significant. Here is an example:Suzie and Charlie want to purchase their first home. After speaking with their Mortgage Advisor, they are given two options:1. $400 000 with the 5 year fixed at 3.59%, or2. $335 000 with the 5 year Variable at Prime-0.4% (2.6%)Even though option 2 has a lower interest rate, it needs to be qualified using the Benchmark rate (5.34%), so their purchase becomes noticeably less.To sum this up, fixed rates and variable rates are two completely different products and are actually very independent of one another. I understand this can be a very confusing topic, so don't hesitate to contact me with your questions!
Canadian home sales fall in April
Statistics released today by The Canadian Real Estate Association (CREA) show national home sales fell from March to April 2018.
National home sales fell 2.9% from March to April.
Actual (not seasonally adjusted) activity was down 13.9% from April 2017.
The number of newly listed homes declined 4.8% from March to April.
The MLS Home Price Index (HPI) in April was up 1.5% year-over-year (y-o-y).
The national average sale price declined by 11.3% y-o-y in April.
National home sales via Canadian MLS Systems declined by 2.9% in April 2018 to the lowest level in more than five years (Chart A). About 60% of all local housing markets reported fewer sales, led by the Fraser Valley, Calgary, Ottawa and Montreal. Actual (not seasonally adjusted) activity was down 13.9% compared to April of last year and hit a seven-year low for the month. It also stood 6.9% below the 10-year average for the month. Activity was below year-ago levels in about 60% of all local markets, led overwhelmingly by the Lower Mainland of British Columbia and by markets in and around Ontarios Greater Golden Horseshoe (GGH) region.
The stress-test that came into effect this year for homebuyers with more than a twenty percent down payment continued to cast its shadow over sales activity in April, said CREA President Barb Sukkau. Its impact on housing markets varies by region, she added. A professional REALTOR is your best source for information and guidance in negotiations to purchase or sell a home during these changing times, said Sukkau.
This years new stress test has lowered sales activity and destabilized market balance for housing markets in Alberta, Saskatchewan and Newfoundland and Labrador Provinces, said Gregory Klump, CREAs Chief Economist. This is exactly the type of collateral damage that CREA warned the government about. As provinces whose economic prospects have faced difficulties because they are closely tied to those of natural resources, it is puzzling that the government would describe the effect of its new policy as intended consequences.
First quarter: The value of multi-family dwellings leads the rise
Canadian municipalities issued $24.9 billion worth of building permits in the first quarter of 2018, up 3.3% compared with the fourth quarter of 2017.
Construction intentions for residential dwellings led the national increase, rising 6.9% from the fourth quarter of 2017 to $15.9 billion in the first quarter of 2018. The 18.4% increase of the multi-family component more than offset a 3.5% decline in the single-family component.
On the other hand, the value of non-residential building permits fell 2.6% from the fourth quarter of 2017 to $9.0 billion in the first quarter of 2018. The drop was the result of lower activity in both the industrial and institutional components.