Memo 1: A (temporary) rate hold from the US Fed
A surprise pause from the US Federal Reserve (the American counterpart to Canada’s central bank) has spelled some short-term relief for borrowers south of the border – but the break is promised to be short-lived.
The Federal Open Market Committee (FOMC) opted to hold the target for its federal funds rate in a range of 5% - 5.25% in its announcement on Wednesday, citing a strong and resilient banking system, along with concerns that tighter credit conditions are starting to make their mark on the overall economy. It’s the first rate hold since January 2022 as the Fed has implemented following 10 straight hikes – totalling an increase of 500 basis points – as the central bank has struggled to fight surging inflation, which reached a high of 9.1% one year ago.
The pause follows the Bank of Canada’s own decision to hike rates in their June 7th policy announcement, bringing the Canadian benchmark cost of borrowing to 4.75%. Both countries have had to materially increase interest rates in order to combat soaring inflation, which has reached 40-year highs within the past year.
“The Committee remains highly attentive to inflation risks. The Committee seeks to achieve maximum employment and inflation at the rate of 2 percent over the longer run. In support of these goals, the Committee decided to maintain the target range for the federal funds rate at 5 to 5-1/4 percent,” reads the FOMC statement.
“Holding the target range steady at this meeting allows the Committee to assess additional information and its implications for monetary policy. In determining the extent of additional policy firming that may be appropriate to return inflation to 2 percent over time, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”
However, policymakers were quick to dash any hopes of a prolonged pause, with Chair Jerome Powell indicating in press remarks following the committee announcement that two more increases will be likely, which would bring their rate to 5.6% by the end of 2023.
The “hawkish hold” as economists have put it, give the Fed some space to further assess how previous rate hikes are working their way through the economy. However, the next increase could be as soon as July.
In an economic analysis note, Desjardins Principal Economist Francis Généreux writes that the promise of strengthening GDP, employment, and high inflation lingering until 2025 will force the Fed’s hand to hike further.
“[This week’s] pause doesn’t mean the end of rate hikes in the US. The Fed is just buying time to assess the effects of previous firming and the impact of tightening credit conditions in the US banking market,” he writes. “Based on the dot plot released today, Fed officials see rates rising another 50bps by the end of the year.”
Memo 2: Soaring bond yields mean fixed rates are on the rise
Those looking to lock into a new fixed mortgage rate haven’t found much in terms of deals lately; that’s because bond yields, which lenders use as a base for their fixed-rate pricing, reached highs not seen since November 2022 this week, with the five-year yield hitting 3.76% on Tuesday.
While that’s since lowered somewhat – down to 3.64% as of Friday, June 16 – that’s still putting significant pressure on lenders to increase their pricing, with terms of all lengths on the rise.
According to Ratehub.ca’s Best Mortgage Rates comparison table, the lowest five-year fixed mortgage rate available today is 4.83%, up nearly 20 basis points from June 5th. On an $800,000 mortgage, that works out to a monthly payment of $4,430 – $82 more than what the same borrower would have paid if they had locked in last week.
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Yields spiked following last week’s surprise Bank of Canada quarter-point rate hike, rising nearly 20 basis points overnight as investors reacted to the news that interest rates would remain higher for longer. Rising rates are bad news for bond investors, as it devalues their holdings, requiring them to sell their bonds at a discount in order to compete with newly-issued bonds which now come with a higher coupon. As a result, many have sold their investments, which in turn drives yields higher.
Given the central bank intends to keep rates elevated for the foreseeable future, bond yields are likely to remain elevated in the months to come, which will continue to put upward pressure on fixed rates. Those currently shopping for a new mortgage are wise to get a rate hold, which will protect them from any rate increases over the next 90 days. Those renewing their fixed-rate mortgage in today’s new rate environment, however, may be facing considerably higher costs than when they first got their mortgage; it’s a good idea for anyone in that position to connect with a mortgage professional to strategize how to mitigate the financial impact. They can also use our handy mortgage renewal calculator to get a sense of how their payments may change upon renewal.
Also read: Mortgage borrowers could see payments soar 25% at renewal time
Memo 3: Mortgages on the decline as Canadians struggle with rising debt obligations
No surprise here: ever-rising debt loads are taking a bite out of Canadians’ ability to borrow further, even as average household net worth rises along with real estate prices.
New household balance sheet data compiled by Statistics Canada and analyzed by Desjardins Economics finds that credit market debt as a proportion of disposable income hit 184.5% in the last quarter of 2022. That’s just below the all-time high of 184.7%, which the measure reached in Q3. That also resulted in the average debt service ratio rising to 14.9%, from the 14.4% it was in Q1 – the largest quarterly increase since the third quarter of 2020.
That’s slowed the pace of household borrowing, particularly mortgages, as rates have increased sharply over the past year; the uptick of new home financing – which makes up three quarters of all total outstanding household debt – advanced at the slowest quarterly pace seen since 1999, rising 0.6% over Q4.
The silver lining was an increase in real estate values over the same time period which drove household net worth up by 3.4%, following three consecutive quarters of decline.
Randall Bartlett, Senior Director of Canadian Economics at Desjardins and author of the report, writes the data proves recent rate hikes from the Bank of Canada are making their mark, but still warrant the possibility of additional increases.
“Looking to the household balance sheet data for Q1, there are signs that the Bank of Canada’s rate hikes have had some intended effects,” he writes. “But sustained economic activity and inflation have led central bankers to conclude that more tightening was warranted. The fact asset values continued to increase tends to lend a bit of additional support to this assessment. As a result, we anticipate that the Bank will hike one more time in July and leave the door open to another rate hike thereafter if warranted by the data.”
The balance sheet data also reflects recent findings from Equifax Canada, which reported that new mortgage originations have dropped 42% year over year, and by 29% when compared to the first quarter of 2020 – a pace not seen since 2018.