Last Updated: March 20, 2023
Central Bank of Canada Overnight Interest Rate: 4.50% (source: BoC)
The current market overnight interest rate forecast for the next 12 months is:
| |
Variable Rate Interest Forecast 2022 to 2028 (as of March 2023) |
|---|---|
| Date | 5-year variable rates |
| 2023-06-30 | 5.86% |
| 2023-12-31 | 6.01% |
| 2024-06-30 | 5.38% |
| 2024-12-31 | 5.03% |
| 2025-06-30 | 4.50% |
| 2025-12-31 | 4.07% |
| 2026-06-30 | 4.12% |
| 2026-12-31 | 3.83% |
| 2027-06-30 | 4.17% |
| 2027-12-31 | 4.01% |
| 2028-06-30 | 4.26% |
| 2028-12-31 | 4.17% |
As a result of the Silicon Valley Bank collapsing, bond markets have undergone a significant reassessment of future rate moves by central banks which include the Bank of Canada. Before the Silicon Valley Bank failure, it was predicted that there would be a 0.25% rate hike by mid 2023, however after the news, bond yields which have a significant influence on fixed mortgage rates, have dipped significantly and 5 year bond yields were down more than 30 basis points. Economists’ expectations that the Bank of Canada will hold interest rates at the announcement held on March 8 were correct. There is a strong likelihood that there will be a 0.25% cut at the next Bank of Canada announcement on April 12 or that rates could be on hold for the rest of 2023. If the bond markets are right and rates are cut, this could provide some needed relief for homeowners.
Some economists believe that there will be another hike or two of 0.25% before the end of the year while others believe that this rate pause might be permanent until rates pivot on lower inflation and start to drop later in the year or into 2024.
RBC economists believe the most likely scenario is that the Bank of Canada will not need to hike interest rates further this year. But that call hinges on whether the previous hikes are enough to slow consumer spending and labour market momentum in the months ahead.
Forecasts from the banks, which are used for risk planning and capital allocation, show that RBC is the only major bank expecting home prices to rise in their base case scenario, forecasting a 2.6% increase to $732,300 by next year, followed by 5.1% compound annual growth for the next four years. At the end of the five-year forecast, a home would be at 25.2% higher than current prices (around $893,500). Most banks don’t see a quick recovery and some even expect prices to remain lower five years later. RBC economists believe that Canada is only halfway through the correction, which means that prices could fall sharply before bouncing back.
CIBC analysts expect the economy to evolve largely in line with the Bank’s hopes, and therefore see the overnight rate grounded at 4.50% over the balance of the year. They believe that the Bank needs a clearer picture of where growth and inflation are headed in order to either opt to hike again or more definitively set aside that prospect. With so little time since it initiated its conditional pause, it simply doesn’t have enough data to provide that clarity. Avery Shenfield, chief economist for CIBC, says that “the economy is likely to slow in subsequent quarters without further hikes due to lagged impacts of prior rate increases”.
BMO’s chief economist, Douglas Porter, expects the bank to stay on hold through the rest of this year. He believes that the key takeaway is that the Bank seems to have subtly loosened any commitment to stay on pause, as the forward-looking language simply refers to the need to continue to “assess economic developments”. Clearly, the Bank wants to keep its options open if inflation doesn’t go their way and/or if the job market continues to sizzle. The Bank of Canada will now be data dependent, and if the recent strong momentum persists, look for the tone to toughen in the coming weeks.
As announced by Statistics Canada on February 21, 2023, the Consumer Price Index (CPI) rose 5.9% year over year in January, following a 6.3% increase in December. The last time Canada’s annual inflation rate was below 6% was in February 2022 when it was 5.7%. However, mortgage interest cost and prices for food continue to rise. In January, prices rose 4.9% on a year-over-year basis excluding food and energy and 5.4% excluding mortgage interest cost. In both cases, year-over-year price growth slowed compared with December
Alex Leduc is Founder and CEO at Perch. Prior to starting Perch, he worked in the real estate sector for 8 years in corporate finance, strategy and analytics roles. He is currently a Technical Advisory Committee Member of the Financial Services Regulatory Authority of Ontario (FSRA) and Co-Chair of the Canadian Lenders Association Mortgage Roundtable. Alex is a graduate of Ivey Business School from Western University and a CFA Charterholder. LinkedIn
The Canadian prime rate stays at 6.70% effective March 8, 2023. The prime rate is what major banks and financial institutions in Canada use to set interest rates for loans and lines of credit which also include variable rate mortgages.
In Canada, there are two main types of mortgages, fixed rate and variable rate. With a fixed mortgage you will pay the same rate over the entire course of your mortgage term and it will not be affected by the market. So if the prime rate goes up, your fixed rate will stay the same. A fixed rate mortgage is a good option if you like to know exactly how much your mortgage payments will be until you need to renew. A fixed rate is also good in a rising rate environment since you lock in your rate regardless of what happens in the market.
Variable mortgage rates usually don’t have a set rate, but rather a spread to the prime rate (ex: Prime – 1.00%). When the prime rate in Canada goes up, so will your mortgage rate by the same amount and vice versa. Most lenders will let you convert your variable rate mortgage to a fixed rate mortgage at any time, you will have to pay the fixed rate once you decide to switch.
It’s worth noting that banks offer a variable rate or adjustable rate mortgage and you should be aware of the differences. When prime rates move, a variable rate mortgage payment will stay the same (subject to trigger rates), but your amortization will adjust to shift more/less or your mortgage payment towards paying interest. With an adjustable rate mortgage, your amortization will remain the same and your mortgage payment will change as prime rates move.
The prime rate is not the same as your mortgage rate. A prime rate is the base cost of borrowing from which lenders start to determine interest rates on mortgages, personal loans, credit loans or other financial products. In general, the prime rate mostly affects variable rate mortgages. Your mortgage rate is the interest rate you are expected to pay on any borrowed money.
To better determine the mortgage rate forecast, it’s important to take into account historical trends. During the great recession in 2008, the economy was able to get back on track after requiring bailouts and stimulus to keep running. There was very low GDP growth for over 10 years after the 2008 recession, which resulted in low interest rates. From 2020 – 2023 there was a similar economic bailout due to COVID. However, this time the stimulus was far greater, with over 40% of dollars ever created between 2020 – 2022. As a result of the shutdown of the economy and supply chains, difficulty restarting these supply chains as well as the war in Ukraine, inflation is significantly more as the economy stabilizes.
On Wednesday, March 8th, 2023, The Bank of Canada announced that it will hold the key interest rate at 4.50%, for the first time in over a year.
For the month of March, Ali Hussain, Head of Mortgage Advisory at Perch, anticipates fixed rates will rise, variable rates will remain the same as the Bank of Canada will potentially halt further rate hikes on March 8. According to CREA, sales activity in January was down 3% month over month and hit a 14 year low nationally. Coming off of a lowest new supply recorded ever for a December, January saw a 3.3% month over month increase in supply, an uptick we had anticipated in our February forecast.
By the end of 2023, Ali Hussin, Head of Mortgage Advisory at Perch, forecasts fixed rates reaching low fours on five-year terms. He also anticipates the Bank of Canada to lower the overnight lending rate in the second half of 2023, causing lower variable rates.
Variable Rates
Based on our latest insights, here is Perch’s forecast for 5-year variable rate mortgages in Canada from 2023 to 2028. In February, we saw optimistic economic data that have delayed the pace of anticipated rate cuts from the Bank of Canada. The long term interest rate outlook has reverted back to 4.00% as of our March outlook and a steadier decline in inflation than initially projected in January has led to a modest rise in fixed mortgage rates.
Fixed Rates
5-year bond yields are expected to also come down around 0.75%, which should be reflected in 5-year fixed rates as well.
According to the Bank of Canada, as of Q4 2021, about 35% of Canada owns real estate with a mortgage. Of that group, the majority have a fixed mortgage. With variable rate mortgage holders, a minority have variable payments, roughly 2% of all Canadians. So no, adjustable rate mortgages are not that common.
source: Bank of Canada (BoC)
A bond creates value over its lifetime until it matures, and the yield is a measure of how much value the bond creates. Government bonds help the government pay for its operations and pay off its debt. It is also known as a ‘security’ which means the buyer is lending the government money, and is guaranteed they will be paid back the face value of the bond when it matures. In Canada, bonds are considered to be very secure investments. The buyer also receives interest payments on their loans to the government for the duration of the bond’s term.
Yield is a bond’s return and is calculated as a coupon yield or a yield to maturity (YTM).
A coupon yield is a set percentage of the bond’s face value paid at regular intervals such as 15% a year. If you bought a bond for $1,000 with a 15% coupon, you would be paid $150 every year until that bond matures. A bond’s YTM is the sum of all the interest payments you would receive throughout the term of the bond. This also includes any gains or losses depending on if you bought the bond at a discount or a premium.
If you decide to sell a bond, the price you paid for it initially might have changed. If you bought a bond at face value for $1,000 and is worth $500 when you sell, it would be considered selling at a discount. If the bond has increased to $1,500, this would be considered selling at a premium. Regardless of the price of the bond when selling, the coupon percentage remains the same. The seller would still receive $150 a year based on the original value of the bond.
The Government of Canada 5 year Bond Yield factors in all known economic data very frequently. When the market and bond traders believe that the Central Bank of Canada will increase rates, the Bond Yield increases and vice versa. In other words, the Bond yield is priced in anticipation of where the Central Bank of Canada rates will move. The Central Bank of Canada makes its rate decisions, based on the status of the economy. Currently for the Canada 5-Year Bond Yield, Canadian bonds are priced in anticipation of a further 0.75% increase in Central Bank of Canada rates in 2022 and early 2023.
Banks will originate mortgages and then pool a bunch of them into what is called a mortgage backed security (MBS) to be sold off to investors (someone like a pension fund for example) who collect a yield on the MBS. The pension fund could invest in other fixed income investments, so mortgage rates rise as a result to entice investors to keep buying the MBS. lBond yields and mortgage rates move in the same direction.
The 5 year GoC bond yield dropped 0.139 points on Friday, March 10th, followed by a 0.38 drop on March 13th, leaving bond yields at 2.898%. This is the largest move in over 25 years for Canada. The 0.57 point decrease is about half of what was taken off in the past year, however the yield is still a little more than a point higher than last year. There were similar drops for different terms such as 2, 4, and 10 year bond yields. This could mean good news for those with fixed rate mortgages, as this could potentially result in lower mortgage rates if these hold up.
5-year bond yields bottomed at 2.79% mid January, yields not seen since August of 2022, with the 5-year bond yield hovering around 3%, lenders will be incentivized to decrease their 3 year and 5 year fixed rates to mid 4% throughout the month of February. We will finally begin seeing lower rates on short term fixed rates in 2023 as well.
For homeowners that are coming up for renewal, rates are beginning to drop. It would be wise to renew into a one year term until rates begin to decrease in the next year. For homeowners that would like to see the benefit of switching lenders and breaking their mortgage early, Perch automatically calculates the net benefit once you input your existing property and mortgage details in your Perch portfolio.
Director of Canada Economics, Tony Stillo, expects the Bank of Canada will hold the policy interest rate steady at 4.50% through 2023, before gradually easing rates to a neutral level beginning sometime in early 2024. He also suggests that the Bank of Canada will not consider a rate increase unless there is overwhelming economic evidence of a heated economy.
CIBC analysts expect the economy to evolve largely in line with the Bank’s hopes, and therefore see the overnight rate grounded at 4.50% over the balance of the year. They believe that the Bank needs a clearer picture of where growth and inflation are headed in order to either opt to hike again or more definitively set aside that prospect. With so little time since it initiated its conditional pause, it simply doesn’t have enough data to provide that clarity. Avery Shenfield, chief economist for CIBC, says “The economy is likely to slow in subsequent quarters without further hikes, due to the lagged impacts of prior rate increases.”
RBC economists believe the most likely scenario is that the Bank of Canada will not need to hike interest rates further this year. But that call hinges on whether the previous hikes are enough to slow consumer spending and labour market momentum in the months ahead. They believe that April’s meeting and MPR is likely the earliest point at which the Bank of Canada would have enough evidence to resume tightening, but RBC economists don’t see the data moving in that direction. Their forecast continues to assume the Bank of Canada will be on hold until early 2024.
TD Bank senior economist James Orlando states that the strong labour market, alongside financial support from some levels of government in Canada, are “juicing the economy at a time when the BoC needs to see the opposite. He believes that if this momentum continues, it could cause inflation to spike again, forcing the Bank of Canada back into hiking mode in the coming months.
Derek Holt, vice president of capital markets economics believes that the risks are still tilted toward the Bank of Canada not being done and perhaps having to come back off the sidelines depending on the data. He sees a half percentage point increase to unemployment by the end of the year, due to a slightly faster growth in the workforce, including through immigration, than sustainable employment gains.
BMO’s chief economist, Douglas Porter, expects the bank to stay on hold through the rest of this year. He believes that the key takeaway is that the Bank seems to have subtly loosened any commitment to stay on pause, as the forward-looking language simply refers to the need to continue to “assess economic developments”. Clearly, the Bank wants to keep its options open if inflation doesn’t go their way and/or if the job market continues to sizzle. The Bank of Canada will now be data dependent, and if the recent strong momentum persists, look for the tone to toughen in the coming weeks.
