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Anticipating Rate Hikes

Anticipation isn’t just a Carly Simon song.  It’s a key characteristic of bond traders.

That characteristic drives interest rates day in and day out.

People often wonder how fixed mortgage rates could increase when the economy is so tentative and the Bank of Canada (BoC) is on hold. Bond traders possess the answer. 

Fixed rates are guided by the bond market (which sets the rates lenders pay for fixed-rate mortgage money). It’s a market that is incredibly anticipatory. In other words, bond traders take positions well in advance of significant economic trends.  Usually, by the time the central bank says, “OK", It’s time to raise rates,” the bond market has already factored in the hikes.

This chart below displays the last four U.S. FOMC rate cycles.  It shows how bonds often sell off months before monetary policy rate increases–which are indicated by the red arrows. (The same principle applies to Bank of Canada rate increases but we didn’t have a BoC chart handy.)

Historical-Bond-Runs-In-Advance-Of-FOMC-Actions As bond prices drop, rates move higher (bond rates and fixed mortgage rates).

The odds are decent that the same pattern will repeat itself this time around.  If so, fixed mortgage rates will likely rise ahead of the first Bank of Canada rate increase.

Chart: Courtesy of Action Economics