Getting the Best Mortgage Rate

Best-Mortgage-RateWhat’s the trick to a better mortgage rate?

That’s what folks at the Bank of Canada (BoC) wanted to know.

It led them to undertake an extensive study on mortgage discounting. A draft of that study was released this month and below are its conclusions.

All quotes that follow originate from the paper’s authors: Jason Allen, Robert Clark and Jean-François Houde.

According to their research, the Canadians who get the best mortgage rates are those who:

1. Bargain

  • Research proves that bank profits “are significantly higher in haggle environments.” As a result, banks prefer not to put all of their cards on the table.
  • This leads to “price discrimination” whereby banks give better deals to skilled negotiators and well-informed borrowers, and stick it to people who don’t watch out for themselves.

2. Have larger mortgages

  • “…since few negotiate the renewal of their mortgage…(this) provides lenders with an incentive to attract consumers with larger loans who have large outstanding balances at the time of renewal.”

3. Use a broker

  • The report states that brokers lower the “search costs” of getting multiple quotes. Multiple quotes (lower search costs) are strongly correlated with lower rates.
  • “Over the full sample the average impact of a mortgage broker is to reduce rates by 17.5 basis points.”  That’s ~$1,670 of interest savings on a typical $200,000 mortgage over five years.
  • Bank “mortgage specialists offer convenience to consumers, although they do not reduce search costs. This is because they work for one lender only.”

4. Do significant non-mortgage business with a lender.

  • “Branch managers have an incentive to offer larger discounts to consumers…that are, or will be, more profitable to the bank.”

5. Have more equity

  • Those who put the minimum down (e.g., 5%) “pay higher rates than other borrowers—about 12 basis points more” than those with LTVs below 85%.

6. Are new clients

  • “…new clients receive larger discounts than existing clients, on the order of 10 basis points.”
  • The authors state that research by Oxford professor, Paul Klemperer, suggests that “consumer switching costs” (i.e., the time, uncertainty and expense of changing lenders) provide banks with “market power” over existing customers.

7. Use smaller lenders

  • “We conclude that the larger a bank’s market share, the higher are the rates that it can charge to borrowers.”
  • “…Borrowers who are new clients at one of the Big 8 banks receive less of a discount than borrowers who are new clients elsewhere.”

8. Are financially capable

  • BoC: “…poorer borrowers may face greater levels of price discrimination when bargaining in person at the branch than they do when transacting through a broker.”

9. Have better credit

  • “Financial institutions…offer better rates to high credit score consumers.”

There are, of course, other factors that impact one’s mortgage rate. Moreover, there are exceptions to the findings above. As one example, not all bank reps are uncompetitive. We know some excellent mortgage specialists that are highly competitive—meaning they’re within 10 basis points of the best industry rate most of the time. (Mind you, as this Bank of Canada report concludes, that is not typical.)

If you’d like to read more, here’s the full study: Discounting in Mortgage Markets. (The BoC has published it as research in progress to invite technical feedback before journal publication.)

Rob McLister, CMT

  1. The biggest single advice I have for anyone looking to borrow, above maintaining good credit and negotiating the best rate or enlisting a good broker to, is to leave some breathing room and not max out all your credit options. When a client is looking to borrow, how maxed out they are clearly dictates what level of options the borrower has. More options = Better rates

  2. Hi Rob
    Love the article. I think the web will do a lot to drive down “search costs” even more. The industry should get ready for this. I always find it funny when I talk to “old timers” in the business who don’t acknowledge that people shop them on rates. I think we will all have to tweak our business models going forward.

  3. I was a little surprised by number 2 (have larger mortgages.) Larger mortgages normally mean higher risk and thus would result in a higher premium.
    My guess is that the higher rates on smaller mortgages are more attributable to the borrower than the lender. The smaller the balance, the less incentive there is to work for a lower rate, and more temptation to just stay with the current lender at whatever rate.

  4. Hi HT,
    Interestingly, mortgage size by itself is not a good measure of risk. As a simple example, suppose you have a fully qualifying borrower with a $1 million mortgage on a high-quality $3 million property. Assuming the application is otherwise normal, that’s low-risk deal.
    Among other things, lenders like bigger mortgages (within reason) because they generate more interest income for the same amount of work, and because they lead to more non-mortgage business (credit cards, loans, investments, etc.).

  5. Whether you are looking for a new loan or renewing, shop more than one lender. And the simplest way to do that ? Use a competent, independent mortgage broker. Madness to just go to your own bank every time. Would you buy a car or any other major purchase that way ?
    Larger loans mean a greater chance of profit for the lender as the admin costs per loan are roughly the same no matter the size. Yes, lenders are choosing greed over a proper assessment of the risk.

  6. It’s all about retention, retention, retention. For the major banks, retentions is extremely important because they cross sell other financial products. If someone only has a bank account, odds are they won’t get the bank’s best rates. On the other hand, if they have a bank account, an investment account, a credit card, and a mortgage with the same institution, that gives the consumer more flexibility to negotiate better terms.
    The problem with discretionary pricing is that the consumer never knows if they’re actually getting the best rate. While mortgage brokerages are transparent in publishing their lowest discounted rates, banks never publish their lowest rate, leaving it up to the consumer to negotiate. If the consumer is not particularly sensitive to the rate, they end up paying as much as 50bp over what a broker may secure. That’s why discretionary pricing is such a money pot to the major banks.
    Rob: by your estimation, how many consumers qualify for discretionary mortgage pricing from their bank? I met with someone who used to do mortgages for a major bank and he said by his estimate less than 10% of the bank’s mortgage customers get discretionary prices. The rest pay either posted or the special offer rates available on the institution’s website.

  7. “Use a competent, independent mortgage broker. Madness to just go to your own bank every time”
    A self-serving statement don’t you think? You might think a majority of Canadians are mad for using their own bank but they don’t as a significant majority still do! There are obviously varied reasons for someone’s decision to use a Big Bank, C.U., virtual bank or yes, a mortgage broker.
    The important message here is to shop around. How a person wishes to do that is their business.

  8. “by his estimate less than 10% of the bank’s mortgage customers get discretionary prices”
    It varies from F.I. to F.I. but is much higher than 10%. That said, over 50% still take what is offered on the renewal mailing or special offer without shopping for a better rate.

  9. I think Davo is just saying that brokers provide an easier way to shop around than just going to one bank. I don’t see how that statement is self-serving at all.
    You just said that “50% still take what is offered on the renewal mailing or special offer without shopping for a better rate.” People who use mortgage brokers don’t run into that problem. Brokers can quickly compare dozens of lenders to see who has the right features for the right rate.

  10. Its self-serving because such blanket statements on a mortgage site that a independent mortgage broker will always get you the best rate, PERIOD! are totally false.
    There are 9 excellent suggestions in this article “Getting the Best Mortgage Rate” Using a broker is but one!

  11. Hi Lior,
    I’d love to know the actual industry-wide ratio of people who receive discretion. Sadly, banks aren’t keen on publicizing that sort of thing. :)
    Anecdotally, I’ve had some mortgage specialists tell me that all of their clients get better than the “special offer” rate. Meanwhile, some branch reps tell me that the “special offer” rate is standard for almost everyone. So it depends if you’re lucky enough to get a good rep or not. High value clients naturally have better odds of getting rate exceptions, but those account for only a minority of applicants.
    As a personal observation, we process lots of switches and refis, so I know what people are being quoted by the banks. In general, the banks are getting more competitive and often quoting slight discounts to advertised rates for AAA clients.
    Renewal letters are the exception. Many of those are still sent out with “special offer” rates (which we all know, aren’t so special) or worse. Ouch!

  12. Great article Rob.
    The banks have a game I like to call, “Robbing Peter to pay Paul.” Basically Peter pays a higher rate so Paul can receive a discount. The goal is to protect their profit margins.
    Unfortunately Peter is usually the long time loyal customer. While Paul is the new customer. This is not fair in my opinion.
    It would be great if a lender would simply adopt transparent banking. To me transparent Banking is when a lender posts their lowest rates and provides a clear expectation of the level of service a client can expect.
    The industry is changing, but the Banks are reluctant to change the status quo because it is so profitable.
    Change will come, but it won’t be fast.

  13. Excellent point and true reflection of the the F.I’s business model. Everything in life is negotiable and bank services are no different. Even GIC rates are negotiable.
    But, I am calling you out on your last point. Is Paul, the bank robber prepared to accept paying 30-50bps more for his discounted mortgage so that Peter, the old loyal customer can get the same transparent rate? I doubt it!

  14. The big banks are a rip off…I dealt with a broker and got a loan from a commercial branch of Credit Union called Scotiaexpress, when I whent to sign up at the Credit union for the paperwork the mortgage officer could not beleive my rate, a full 2% lower then there best posted rate in the bank…she as an employee could not get this rate! Banks hope you’d walk in and sign whatever they tell you it’s the going rate…unfortunately most poeple do just that!

  15. Items 4. and 6. seem to be mutually exclusive. I guess the take home message is to shop around.
    I wound up getting the best rate from one of the big banks — one mortgage broker I called said that I couldn’t possibly be getting that rate, and that either I was wrong or the bank rep was lying to me. So I figured it was a pretty good deal. :-)

  16. That’s funny. I had a bank specialist tell my client the same thing – that my rate was bogus because it was so low. Most people at the bank have no idea what rates brokers can get, and vice versa.

  17. When I first used a broker I decided to go to my bank and get a quote, to keep the broker honest (and I told him I would do that). He was happy with that, and of course beat the rate I got handily.
    When I informed the branch manager of this, she told me that brokers deal with “corporate” who do not have the per branch targets that she did, and thus she could not hope to match the offer I got from head/regional office.
    It was really quite stupid for the bank as the broker got a better rate from the same institution than I could – they were bidding against themselves! I could have got the same rate elsewhere, though, even if they were not …
    My next renewal (same broker) he told told me that he couldn’t negotiate with the same institution for a renewal – only if I moved banks (which I was quite willing to do). But fortunately I got the same rate when I negotiated this time – I said “I expect this rate or I move” (nicely).

  18. For clarity, are you saying that, in the end, you stayed with your bank because the broker’s best interest rate was matched by them? S.

  19. That’s true, they could. Sometimes they have these rate specials where the rate offered to the consumer is better than what most brokers would offer. But I can tell you from my own experiences they won’t *beat* rates all the time. Sometimes they’ll even have a problem matching it, let alone beating it. Depends on the deal I guess.

  20. The problem is, big banks almost never “really want” to do the deal — enough that they’ll take a loss.
    I can also take a loss on a deal and beat the best bank rates. What’s the point?
    Banks are not charities. They use discretionary pricing for a reason. A few people get great rates but most people get horrible rates. Whatever rate you get, you’ll never get objective advice about multiple lenders’ mortgages.

  21. I came across a research report investigating savings attributed to variable rates over going with a fixed rate mortgage product. The study was conducted from 1950 to 2007 by Dr. Moshe
    Milevsky, Associate Professor of
    Finance at York University.
    In his study he found that choosing a variable rate mortgage
    would have saved Canadians $20,000
    in interest payments over 15 years
    (based on a $100,000 mortgage).
    Canadians would have been better off
    borrowing at a prime rate (variable)
    compared to a five-year fixed rate 89% of the time

  22. Hi Tom,
    Thanks for the post. As a further update, Prof. Milevsky later found that variable beats fixed only 77% of the time when using discounted rates.
    The question is, are we in that 23% of the time when fixed wins.
    Variables may still be appropriate depending on the borrower but there’s a lot to consider including, but not limited to, alternate terms and the borrower’s financial circumstances.

  23. As an ex mortgage broker I used the same old story “I can get you the best rate”. Here’s my question how many mortgage brokers here will tell their clients “Hey actually I can’t get you the best rate, actually this lender has the best rate but I can’t send your application to them because they don’t use brokers or I’m not on that lenders preferred broker list” As a broker you would lose a lot of business if you did that, so you see there’s lies on both sides.

  24. Here’s another question. How many bankers will admit that they don’t offer the best rates? At least brokers have more than one bank to choose from.

  25. That’s the point. Neither the broker or banker can guarantee the “best rate”.
    The most successful brokers and bankers hardly offer the “best” rates, but rather offer value-added solutions at a fair price.
    As a consumer, either do own research or research for a good advisor.

  26. It doesn’t matter how many lenders you can deal with, if you’re stating that you can get them the “Best” rate when a broker or branch rep can’t always guarantee this is a lie. Banks want to cross sell other products and services. Banks aren’t interested in rate shoppers, if they’re not willing to build on a realtionship with them.

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