Welcome to the spookiest month of the year! Not just because the ghosts and ghouls come out to play, but also because we can expect yet another rate hike from the Bank of Canada in a few short weeks on October 26th. But believe it or not, I’m not back on the blog after a year long hiatus to talk about the overnight rate or its affect on variable rate mortgages today – that’s a subject that’s been getting more than enough air time. Instead, we’re going to do a bit of jargon-busting, and a little semi-deep dive into fixed rates, bond yields and yield curve inversion. It sounds a bit finance-y and dull, I know. But getting comfortable with these terms will help you to understand why shorter term (1-3 year) fixed rates are higher than their 5 year counterparts right now, and what a better option might be for you if you’re looking to protect your monthly cash flow, while helping prevent payment shock at the end of your mortgage term.
BOND YIELD BASICS
If you’ve been around here for a while, then you already know that unlike variable rates which are directly correlated with the Bank of Canada’s overnight rate, fixed rates are set based largely (but not entirely) on the 5 year federal bond yield trends. A government bond is a secure investment which essentially Canadians lending money to the government and interest is paid back over a fixed amount of time varying from 1 to 5 years – this interest is the “yield.” As the price of the bond decreases, the yield increases and as the yield increases, so do fixed rates.
Currently, we are seeing the price of shorter term bonds decrease in favour of the longer, 5 year ones. Why? Because near term market sentiments are resoundingly negative, with economic data this fall continuing to reflect declining GDP and increasing unemployment. So investor money is going increasingly toward the longer term options. So, as pictured here, shorter term rates are increasing above longer term ones – this is referred to as “yield curve inversion.”
SO WHAT’S A SAVVY HOMEOWNER TO DO?
We already know that given the current increasing rate environment, new buyers, owners coming up for renewal, or those looking to refinance right now to access equity are looking for the most affordable solutions with the best return on investment overall. There are a few options to help alleviate some of the financial pinch and best set yourself and your family up for the long term. But there is one that is a bit lesser-known, and I believe one of the best options for protecting your cash flow month-to-month and alleviating potential payment shock at your next renewal.
THE TRUE BEST OF BOTH WORLDS
When most people think of a variable rate mortgage, they think of what is actually more specifically called an adjustable rate – or one in which the payment fluctuates with the interest rate.A true variable rate mortgage, on the other hand, allows the borrower to set a fixed payment that will remain unchanged regardless of rate (within reason). In a true variable you will have the benefit of a lower penalty for early payout (only 3 months interest) and be able to take advantage of lower variable rates when they inevitably come down.
A FINAL THOUGHT
I hear from Canadians every day who are worried about this rate environment and what it will mean for their bottom lines, and I tell everyone the same thing – there are so many tools at our disposal to set you up for success and insure you are able to weather this economy well! If you have questions about what the best option is for you to purchase, renew or refinance, schedule a no-obligation call below!