Canadian Mortgage News & Canada's Mortgage Trends

Central Banks Chop Rates

The U.S. Federal Reserve slashed it's key interest rate by 0.75% this morning--in emergency fashion.  It was their biggest cut in over 23 years.

The Bank of Canada (BoC) also lowered its key interest rate 1/4% saying, "Further monetary stimulus is likely to be required in the near term.''  That suggests they may cut again at their next meeting March 4.

The BoC also cut their economic growth estimates and acknowledged little threat of inflation.

When Will Fixed Rates Follow Bond Yields?

5-year bonds rates sank to 3.36% today, their lowest yield since September 2005.  Meanwhile, 5-year fixed mortgages (which normally hinge off bond yields) are still quoted in the high 5'% range. 

We want to say that's ludicrous and that fixed rates must start falling soon.  In our gut we expect them to.  But, this is the credit market, and anything goes when fear and uncertainty abound.  Spreads could theoretically keep expanding for months (keeping fixed rates high) until the subprime tidal wave passes.

In the meantime, variable rates seem pretty attractive--even at a chintzy discount of prime - 0.50%.  If you're leaning towards a fixed, remember, you can always lock in a variable 6-12 months from now if fixed-rate spreads deflate and rates fall.

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Side Bar:  If you want a variable mortgage with the intention of converting to a fixed rate, first ask your mortgage planner what rate you'll convert into.  Many big banks for example, will convert you into a rate that's only 1% to 1.25% off their stratospheric posted rates.  Certain non-bank lenders are much more generous and let you convert into the lowest available broker rate.

Predicting Interest Rates: Futile.

Why do economists make interest rate predictions to the nearest tenth of a percent?  To prove they have a sense of humour of course. 

As the New York Times says, economists are paid to guess wrong.  In July 2007, for example, 13 of 13 major Canadian bond dealers predicted interest rates would increase in late 2007.  One month later 11 of 13 said rates would remain unchanged!  A month or so after, economists were actually calling for the BoC to lower rates! 

Things can change that fast, largely because the inputs in interest rate forecasting are infinite and random.  No one can properly process and weigh all those variables.  Indeed, research consistently shows that professional economists continually guess wrong over time. (See the Cleveland Fed Study, Dowling College Study, FMA Study, St. Louis Fed Study, etc.) 

In short, you might as well flip a coin than rely on an "expert's" opinion of rate direction. 

But if no one knows where rates are going, how do you know whether to get a fixed or variable mortgage? 

Well, try asking that question of your mortgage planner.  The best professional mortgage planners will analyze your financial profile and risk tolerance, apply the available research, and then suggest the best course of action irrespective of rate direction.

We may not know where rates will be 12 months out, but there's a few tricks of the trade we can still employ to save you interest.

ABCP Not Quite a Blessing to Banks

When the s#@% hit the fan in the ABCP market last summer, banks thought they'd be in the driver's seat.  They figured they'd pick up lots of market share as alternative lenders scurried to find new funding sources.  (Many non-bank lenders rely heavily on ABCP and other unique credit facilities.)

Funny enough, the opposite has occurred in many cases.  The credit crisis has driven up the cost of funds for all lenders, including banks.  In addition, many non-bank lenders have already persevered and secured alternative financing. 

Even the government-sponsored mortgage-backed bond market is working to the advantage of smaller lenders.  That's because big banks have been somewhat restricted from tapping this market.

The net result is that many non-bank lenders (like MyNext) are now in stronger long-term positions because of the crisis.  It's partly why rates from smaller lenders are now much lower than even "discounted" bank rates.

Posted Rates - Why Do Banks Quote Them?

Banks are funny.  They quote mortgage rates that they never expect most people to pay.  They call them "posted rates."

Banks are far from dumb, however.  They quote posted rates because their analysis suggests it's the most profitable strategy.

There are different reasons why.  To begin with, banks want to avoid the price wars that would ensue if they started widely quoting discounted rates.  This would rock their profitability and significantly accelerate the commoditization of mortgages in Canada.

Secondly, banks know they have the edge versus the customer in negotiating rates.  Bank reps are far more prepared for battle then the average mortgage shopper, mostly because of all the training banks give them.

Last but not least, big banks know that many people will just blindly renew with them or accept their initial quotes.  Openly quoting deep discounted rates would drastically slash banks' profit margins with these customers.

In general, it's true that if you want the best bank deal you have to negotiate...hard.

If you want the best deal period, use a professional mortgage planner.  You'll find the process much more pleasurable (and economically beneficial) because success no longer depends on your negotiating tactics.  Negotiating becomes the planner's job, on your behalf.

Variable Rates Might Not Follow Prime

If you have a variable rate mortgage you won't like the sound of this.

TD says there's a chance the big banks may not lower their prime rates the next time the Bank of Canada (BoC) lowers the overnight rate.

The reason is that banks' cost of borrowing has increased considerably thanks to the subprime crisis.  Banks are looking for any way possible to preserve profit margins.  Keeping prime rate at 6.00% would add a juicy 1/4% to their rate spreads (assuming the BoC lowered rates 1/4%).

While not unprecedented, this would certainly be an unusual scenario.  For almost 10 years, banks have lowered their prime rates every time the BoC has lowered its overnight rate.  The prime-BoC spread has been a steady 1.75% the whole time.

The underlying problem is that prime rate determines 65% of all business and consumer interest rates, either directly or indirectly.  Unless the banks lower their prime rates, the Bank of Canada's own rate cut would have much less power to stimulate our economy.

Many are upset by this prospect, and some have even accused the banks of colluding to set rates.

In reality, though, the chance of banks defying the Bank of Canada are rather small.  Banks don't want to threaten their relationship with the BoC...or lose business if competitors break ranks and match the BoC's rate cut. 

Indeed, the chances of banks flouting the BoC are greatest if their cost of borrowing increases further before the BoC's next meeting.  Most likely, however, banks will make do with lowering prime but keeping their discounts off prime stingy.

The Bank of Canada meets next on January 22, and is expected to cut rates 1/4%.

CHSI - A Bad Credit Alternative?

If you can't get a mortgage because you're credit is bad, Creative Housing Solutions (CHSI) wants you to call them instead of a mortgage planner.  The upstart company leases houses to people who can't qualify for a traditional mortgage. 

Here's basically how they work.

1. You first pick a house out of their "inventory."
2. You then move in and pay CHSI rent. Lease terms range from 2-5 years.
3. CHSI pays your property taxes and maintenance and also builds "lease credits" into the rent.
4. At the end of your lease term you use their "lease" credits as a downpayment and buy the house; or, you walk away.

The upside is that qualifying with CHSI may be easier than getting a mortgage with many subprime lenders. In addition, CHSI's lease credits are like a forced savings plan that let you build a downpayment over time.

A big downside, however, is the payment.  Here's an example property.  Based on our calculations, this 884 sq. ft. townhouse is worth ~$149,000 and leases for $1800 a month. 

In case it's not obvious, $1800 a month for this home isn't cheap.  A mortgage on $149,000 is only $1333 a month at 10% interest--not out of the question for someone with bad credit.  You could easily pay your own taxes and maintenance, put 15% of your payment away each month for a downpayment, and save the "juice" CHSI builds into their lease payments.

The other downside is CHSI's limited home inventory.  They had just one property in their southern Ontario listings as of this writing--and it was already leased.

In sum, given the above issues, those with "challenged" credit may be better served by calling a mortgage planner who specializes in subprime deals.  If CHSI's inventory and payments improve, however, their appeal may someday grow.  We'll keep an eye on them.

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Call the company or consult their FAQs for facts and details.

Test Your Rep

Mortgage shoppers put a lot of trust in the judgement of mortgage planners and bank reps.  Obviously, when tens or hundreds of thousands of dollars are on the line, it makes sense to deal only with true professionals.

To test a planner/rep's knowledge or professionalism, ask a lot of questions.  Here are a few basic ones for starters:

1. What determines fixed mortgage rates?
2. What determines variable mortgage rates?
3. When is the next Bank of Canada meeting?
4. Where do most economists see rates going at this meeting?
5. Do you quote each lender's (or your bank's) lowest available rate up front?

If the bank rep. or mortgage planner can't properly answer every one of these questions, go elsewhere.  It probably means they're not dedicated enough to the business to research the trends and products that are in your best interests.

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Answers to the above...

1. Fixed rates are based on a spread above bond yields.
2. Variable rates are typically based on banker's acceptance rates and priced at a discount off prime rate.  (A bankers acceptance is a short-term money market instrument backed by a bank)
3. January 22, 2008
4. Most economists expect the Bank of Canada to lower their key interest rate 1/4%.
5. If your credit is good and it's a straightforward deal, the answer should be yes. Otherwise the bank rep. or planner is trying to play games, pocket the difference, and/or negotiate to your detriment.

Mortgage Bytes

• Canadians bought more homes in Florida than Americans this past fall.  Diane Francis says it's premature. She thinks demand won't catch up with supply there until 2010.
• The Federal Reserve says it's ready to cut U.S. interest rates.  The Fed's next meeting is January 29-30. Most expect the Bank of Canada to pre-empt the Americans with a 1/4% rate cut of their own on Jan. 22.
• 80% of new homes in Vancouver were condos in 2007.
• Saskatchewan had the biggest home price gains in 2007:  +48% according to the latest CREA figures.
• CBC Marketplace warns that condo purchase agreements give builders a shocking amount of latitude.
• Bank of America will now become the U.S.'s #1 mortgage lender with their purchase of Countrywide.  Apparently Countrywide's record foreclosures have made it a "good" buy. Countrywide has slashed 11,000 jobs since july and almost completely exited the subprime market.
• Average home prices in beautiful Canmore, AB may top $1 million in 2008.
• MortgageBrokers.com gives stock options to brokers for signing up.  Question is, with their stock dipping to 20 cents, how much lower can it go and still have an incentive effect? The worst part is that the company's shares outstanding seem to be going up.  The more shares in the float, the harder it is to get a stock off the ground.  (Full Disclosure: We own MBKR stock as an investment. This is not an buy or sell recommendation.)
• It turns out FP's Drew Hasselback is to blame for Canada's credit crunch.  Banks do make mistakes.
• The less fortunate can win a downpayment in Waterloo.

What Happened to the CMBS Market?

Where did Canada's commercial mortgage-backed securities (CMBS) market go?  No one's trading in it anymore and there's only five key institutions left to support it.

The answer is, it's yet another victim of the subprime credit crunch (what else is new?).  A few years ago, however, CMBS financed 25% of all new commercial real estate debt in Canada, according to the Financial Post. 

Now, with less competition, commercial financing spreads have soared over 1% in the past few months alone.  That, of course, is bad news for commercial borrowers. 

On the bright side, Canadian CMBS leader and pioneer, Merrill Lynch, says it is still "committed to the business."