Dear Reader,
The Bank of Canada (BoC) announced this morning (October 22nd) that it has lowered its overnight rate target to 3.75%. This represents a 0.5% decrease from the last meeting and a 1.25% drop from the peak of 5% reached in July 2023. The market still expects an additional 0.25%-0.5% decrease this year. We are now at the same level as of fall of 2022 when mortgage rates were much lower. The next BoC meeting will take place on December 11, 2024.
The Fight Against Inflation is on Track but not the BoC
With this new decrease, the BoC continues to believe that the fight against inflation is going well, and that higher interest rates are no longer necessary. The latest inflation reading stands at 1.6%, the lowest since February 2021. The economy continues to grow modestly. The BoC expects a growth for the year of only 1.2%. With a 3% population growth, GDP growth is not keeping up. The unemployment rate at 6.5%. This is a full 2.5% above what is considered full employment of 4%. So, without calling it an emergency cut, which looks like it, BoC cut more to avoid a recession. A recession is 2 quarters of GDP growth going negative, but we have 5 quarters of negative GDP per capita growth…
Figure1: BoC overnight rate Vs Inflation rate
By looking at Figure 1, we see that normally, up to the pandemic in March 2020, the overnight rate was close to the inflation rate, sometimes higher (not shown on the graph), sometimes lower but never too far. Since the pandemic, de BoC has been completely off target. During the pandemic, inflation rose drastically, but the BoC stating that it was all transitory and that the economy needed support, kept rates at 0.25% for far too long. The largest gap was in June 2022 with a gap of 6.6%. Following this gap, they started drastically increasing their interest rate to close the gap. When they reached parity, not only did they not stop, they increased the rates some more and then kept them high for almost a year. So, now they are running behind the curve, again, and will have to continue to deliver cuts until we return near parity with inflation. Interesting fact, Canada is the only one of 2 countries (Iceland), that use mortgage interest cost in their inflation calculation. This means really well that the 1.6% of today’s inflation is likely overstated, and the BoC has overshot their target. Why do I say that? If 29% of the calculated inflation is shelter (Mortgage interest cost, renovation and rent) and interest rates are failing, so will be inflation. This is why most countries do not have mortgage interest rates in their calculations. It is also why the BoC uses as a preferred method a variant called Core Inflation to make their decision. One more note, inflation calculates the rate of change in prices from 1 year to another. So, even with the rates below 2%, prices are still much higher (and still increasing) than they were pre-pandemic. At least now, the increase should be matching your yearly paycheck increases of 2-5%.
Impact on Interest Rates
All of this is only to say that, variable rates have more room to move down. Fixed rate, however, have been trending down for almost a year now, so they are ahead of the BoC. So, most likely they will continue to go down, but at a much slower rate than the BoC, unless inflation start growing again. All variable-rate mortgage should see a reduction by 0.5%, starting after your next payment. Banks should lower in the coming hours or tomorrow their Prime rate. Today, the lowest variable mortgage rate is 5.00% (When prime goes down). Fixed-rate mortgages are not directly affected by the BoC's decision and have been for insured file at 4.24% for a 3-year fixed for some time now.
Impact on Real Estate
What this also means for real estate is that lower rates will make mortgage qualification easier and allow more buyers to enter the market. This already started with an increase in transactions this fall. This new drop may extend the fall market into the winter market. With more than 51% of potential buyers stating that they will resume their search when BoC lower rate under 3%. Many economists are predicting BoC to be below 2.5% in the spring. We are likely to have a very active spring. So, if you are planning to buy in the near future, I would start looking now.
Advice for Mortgage Holders and Seekers
If you have a variable-rate mortgage or a line of credit, whether HELOC or personal, you will notice a reduction in your payment of about $30 per $100,000 mortgage and $40 per $100,000 for the line of credit. So, if you have a $500,000 mortgage, your payment will decrease by $150 per month or $200 for the line of credit. If you have a variable-rate mortgage with a static payment, likely with a large Bank except Scotia. This means you will start paying off your mortgage a little faster. If in the past you had increased your payment to cover at least the interest, I do not suggest going back to a lower payment. It is better to use the extra payment to increase your principal repayment and start paying off your mortgage. If you are struggling to make your payments, contact me to discuss the right strategy. All these changes will likely occur with your next month's payment. If you pay weekly or biweekly, you will see the change during the second set of payments (depending on the bank).
If you have a fixed-rate mortgage, nothing changes for you until your renewal. If you have a renewal in the next 12 months, you should start your process as early as possible, as you could be at risk of payment shock.
If you are looking for a mortgage, your pre-approval does not change, as you are more likely to have a pre-approval on a 3-year fixed rate rather than a variable rate. If rates start to drop, you will benefit from the lower rate.
If you are not yet pre-approved, I suggest starting your process now and not waiting for more news about interest rate cuts, as the market will likely pick up and prices will probably rise. You would have the chance to explore a market with more inventory and less competition than if you wait.
If you need help with a mortgage, pre-approval, or a plan for the future, you can contact me or Gina by making an appointment:
Sincerely,
Simon Bilodeau and Gina Lopez
Mortgage Brokers
Refinancebc
604-828-9864
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