Canadian Mortgage News & Canada's Mortgage Trends

50/50 U.S. Rate Cut!

The U.S. Federal Reserve surprised everyone today by chopping both its key interest rates by 50 basis points (1/2%).  Most economists had expected only a 1/4% reduction.

How will Canadian interest rates be affected?  Many "experts" think the Bank of Canada will leave our rates alone for the rest of the year.  If so, variable mortgage rates should stay where they are.  Others feel rates could actually still go up 1/4% to 1/2% because Canada's economy is so robust. 

Very few are calling for a drop in variable rates.

In the near-term, fixed mortgage rates may fall, however.  That's because (unlike variable rates) fixed rates are based on bond yields, which have dropped significantly in recent months.

Is that confusing enough?

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In related news, the Canadian dollar looks like it's on a one-way course to even money with the U.S. dollar.  It's now at 98.74 cents U.S.--it's highest level in over 30 years.  That could brake our economy and further reduce the chances of a Canadian rate hike this year.

Interest Rate Watch

Canadian fixed mortgage rates have finally begun to inch down.

At least four non-bank lenders have dropped rates 5-10 basis points in the last three business days.

We will now be watching what the Federal Reserve does Tuesday.  The Fed is widely expected to lower rates in the U.S.

Just don't expect Canada to follow any time soon.  Inflation is still a threat and the Bank of Canada's David Dodge wishes he would have hiked Canadian rates more already.

Long Amortizations Become Popular

1/2 of new home buyers who put down less than 20% now choose 35-year amortizations or longer, according to the Financial Post. 

In many cases, 40-year "Ams" are the only way to get people qualified, says Brian Bell of mortgage insurer AIG.

"Long-Am" products have lowered the cost of borrowing and, according to many economists, propped up Canadian housing prices.  On the other hand, long-term borrowers are padding lender profits with all the extra interest they're paying.  That has some economists worried because, the more interest borrowers pay, the less they can spend on Canadian goods and services and on retirement.

40-years isn't where it ends, however.  Some Canadian lenders are now planning 55-year mortgages.  Perhaps someday we'll even approach the 99-year mortgages commonly seen in Europe.  Only time will tell.

It's not all doom and gloom though.  Mr. Bell says the average Canadian pays off their 25-year mortgage in 12-14 years by increasing their payments.  (We're very surprised by this figure and expect repayment periods to lengthen over time.) 

He estimates the typical 40-year loan will probably be paid off in 20 years.

In many cases, our clients have similar intentions when choosing a long-term amortization.  Most of them plan to make extra principle payments throughout the year.  Many simply prefer to keep their obligatory payments low in case their earning power temporarily dips (due to job loss, disability, etc.).

Others get 40-year mortgages because they have to be located in a certain area, dislike renting, and need a long-am to fit within lenders' debt servicing guidelines.

First Time Home Buying

By Adrian Mastracci
Portfolio Manager – KCM Wealth Management

First time home buyers develop many apprehensions, typically along the lines of: Am I doing the right thing? Can I afford it? How will I finance the home? What about the interest rate?

Today’s times can be intimidating. Mortgage rates are up and real estate prices keep rising. Nonetheless, while first-time buyers might not be able to remove all of the risks and anxieties from the equation, financial considerations and emotions can still happily coexist.

If you are a first-time home buyer, here are some tips to help you through the process:

1. The first question is often whether it makes more sense to rent or buy. Generally, it’s a matter of flexibility. Do you want to move without all the fanfare, or do you want to build your own personal nest? While it exposes you to the whims of the landlord, renting is often a better financial value. I caution not to view the purchase of a home as an investment. It’s more about a personal decision. If it turns out as an investment, it’s a bonus.
2. One smart strategy is to shop for a mortgage pre-approval because rates are typically held for 90 to 120 days. That protects you if rates rise and gives you time to find a suitable home.
3. RRSP withdrawals up to $20,000 per spouse can be used to reduce your mortgage. This money will need to be repaid over 15 years, however. Otherwise it becomes taxable income.
4. Try to stay within conventional first mortgage terms—i.e. a down payment of 20% or more. That avoids the additional fees and complications of high-ratio mortgages.
5. A frequent question is whether to get an open or closed mortgage. Remember, even closed mortgages generally allow 10-20% annual prepayments without penalty.  Plus you typically have the privilege to increase or double up your monthly payments.
6. Forget investing outside your RRSP if your home mortgage is still outstanding, particularly, if the interest is not deductible. The best risk-free investment is mortgage repayment. Consider this. A 5.75% interest rate translates to an 8.2% risk-free return if you’re in the 30% tax bracket. Once the mortgage is repaid, then you can redirect your payments towards investing.
7. People worry about how to protect themselves if the unthinkable happens, like losing a job or the ability to work. One smart solution is to create an emergency fund covering three to six months of expenses. Hold it in a risk-free savings account at an institution where you have no loans or credit cards.
8. Become aware of the impact of decreasing your amortization. The example below shows how someone with a $240,000 mortgage can save over $92,800 by going from a 25-year to a 15-year amortization.

Sample condominium purchase

Purchase price: $300,000

Down payment: $60,000 (20%)

Mortgage financing: $240,000

Mortgage rate: 5.75% (5-year, closed)

Mortgage payment/month for various amortizations:

35-yr: $1,318
30-yr: $1,390
25-yr: $1,500
20-yr: $1,675
15-yr: $1,985

Total interest paid at 5.75% during full amortization:

35-yr: $313,410
30-yr: $260,500
25-yr: $210,015
20-yr: $162,180
15-yr: $117,170

Income required: $65,000 to $89,000*

* Based on a gross debt service (GDS) ratio of 30%. (i.e.  30% of pretax income goes to principal, interest, taxes, and heat)

I maintain that mortgage amortizations longer than 25 years bring new meaning to home ownership. Or, more to the point, I think of them as “long-term renting” from the mortgage lenders.

Moreover, I’m firmly in the camp of repaying the non-deductible mortgage as soon as possible. Then the borrower can devote full attention to accumulating an investment portfolio.

The key is to always design a suitable game plan. It helps tremendously in reaching your personal goals. There is a lot at stake. Your comments are welcome and I am always available for a discussion.

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Adrian Mastracci is private-client portfolio manager at KCM Wealth Management Inc. You can visit him at www.kcmwealth.com or email him at kcm@kcmwealth.com. Please note: The information provided is for general informational purposes only. Please consult a qualified financial advisor before acting on this information.

Xceed's Outlook

Xceed Mortgage thinks Canada's credit crunch may last until winter or spring 2008.  That's not the greatest news for a company that relies on debt investors to fund its mortgages.  They're also cutting their dividend to "conserve cash."

On the upside, Xceed is a very well run company.  Their mortgage fundings are up 24% over last year.  Plus, despite the challenging environment, Xceed is honouring all mortgage commitments it's made to customers--without raising interest rates on those commitments.

Don't be surprised if Xceed emerges from its challenges in 2008, as a much stronger company.

Mortgage Bytes II

• For the first time in two months, lenders are finally starting to drop their 5-year fixed rates.  HSBC and Alterna Savings are leading the way lower. Both are now under 5.70%.
• More BC renters are becoming dissatisfied with their landlords.  Renter dispute resolutions in BC are up 40% in the last year.  At 1.2%, BC has Canada's 2nd lowest rental vacancy rate behind Alberta.
• Scotiabank has these not-so-rosey thoughts about Canadian home prices:  "There is little doubt that current trends are unsustainable...there is growing evidence of overvaluation...Affordability is becoming increasingly stretched for many would-be buyers after almost a decade of rising home prices."
• The Bank of Canada says, "caveat emptor."  It will not bail out Canadian debt investors hurt by the subprime debacle.  The BoC further advises investors not to rely on debt ratings for complex commercial paper, the type used to fund many mortgages.
• Manulife wants to "own" online banking in Canada.  Expect a bigger mortgage push from the company in coming months.
• It takes 52% of the average person's income to afford a typical house in Toronto.  (Most lender's like to keep mortgage applicants near 32%.)

Mortgage Bytes

• "The Bank of Canada won't match the interest rate cuts by the U.S. Federal Reserve," says CIBC's Avery Shenfeld in the Financial Post.
• MyVMB's Smith Manoeuvre Mortgage Comparison has been updated to include Canadian Tire's new One-and-Only mortgage and IG's All-in-One mortgage.
• Financial Blogger offers his own real-life account of implementing the Smith Manoeuvre
• Problems linger in Canada's commercial paper market.  On a not so reassuring note, TD's CEO predicts the commercial paper market will be "going for a ride here for the next three or four months...I think it's going to be quite ugly."  Unfortunately, that means Canada's "credit challenged" may be charged higher interest rates, and have fewer product options, for some time to come.
• The Financial Post's Peter Foster reminds us that bailing out commercial paper investors is not the job of government.  He notes, doing so "would only encourage them to do it again."
• Is Calgary real estate reversing?
• Want to own an island?  Here are 10 you can buy in Canada for under $250,000.  (see bottom of article)

Will Fixed Rates Fall?

A reader asked us this question yesterday:  "As the 5 year bond rates are falling, do you see fixed rates falling soon?"

Truth is, it's a tough answer.  

Bonds yields have dropped about 1/2% since June 12.  Normally lenders would have lowered their fixed rates as a result.  But the whole credit/liquidity crunch has changed things. 

With all the panic in the subprime space, the spread between bonds and 5-year fixed mortgages has widened from 120 basis points in August to 165 basis points today.  That means Canadian lenders have to pay more to borrow, and that's offsetting the benefit of lower bond yields.

In time, spreads will return to some semblance of historic normalcy, but "when?" is the question.  3-12 months is the best estimates we've got.

Currently bond yields are near technical support, and they'd probably have to break much lower if fixed rates are to drop in the short term. 

But alas, take that with salt.  We still haven't found a crystal interest rate ball that works as well as we'd like.

BMO Offers Free Banking

BMO is raising the ante among big banks.  Starting October 31 they'll offer free banking for 5-year mortgage customers.  They claim an $800 cost savings--but that depends on how much you bank. 

Don't be surprised if other banks follow suit.  The mortgage industry is about to get a whole lot more competitive in the next 12 months.

Keep in mind, however, that in most cases you're better off finding a lower rate mortgage, or one with more flexible terms.  $800 savings is peanuts if your rate is 1/4 point higher on a big mortgage.

Smith Manoeuvre - Part II

The final part of our Smith Manoeuvre mortgage overview is now available on Million Dollar Journey.  Thanks to FT for making this possible.