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Big 6 See Rate Hike in May or July

Businessman Consulting Glowing Crystal BallWith the Bank of Canada maintaining the status quo yesterday, many are wondering what’s next for mortgage rates.

If you put any stock in the Big Six banks’ predictions, here’s the latest commentary from their professional ball gazers…

CIBC: “We’re sticking with our view that an upgraded economic outlook in April’s policy report will pave the way for a rate hike in May, assuming the C$ settles down a bit before then.”

BMO: “We judge that the bank is waiting for evidence that U.S. economic performance is strong and steady enough to ensure that Canadian exports will contribute to Canadian economic growth regardless of the level of the loonie. We’ve pencilled in a July resumption of rate hikes.”

National Bank: “There is a compelling case to be made for higher interest rates in Canada since excess supply is closing faster than previously anticipated by the Bank…We remain of the opinion that the next rate hike will occur at the May 31 interest-rate setting meeting.”

RBC: “The Bank is unlikely to stay on the sidelines for long if the data continue to show that the economy is maintaining its upward momentum…We maintain our call for 100 basis points of rate increase in 2011 with the first hike coming in May 2011.”

Scotiabank: “…When it comes to forecasting the resumption of rate hikes by the BoC … we think that doesn’t occur until October of this year.”

TD: “In the wake of today’s statement, markets will pare back bets that a rate hike is in the pipeline in April or May…A next hike in July still appears the fairest bet.”

Rate-HikesThese predictions apply to the overnight rate, which has a direct impact on prime rate. Prime rate, of course, is the basis for variable mortgage rates.

As always, it’s worth remembering that economist rate predictions are subject to change and error. That said, for fun we ran some quick numbers based on the banks’ estimates.

For argument’s sake, let’s suppose that:

  • You want to compare a 5-year variable versus a 5-year fixed rate
  • You’re willing to set the variable-rate mortgage payment so that it’s as big as the fixed-rate payment (Normally, variable-rate payments are less than fixed-rate payments.)
  • Prime rate starts rising again at the July 17 BoC meeting and rises ¼ point each BoC meeting until the overnight rate climbs 2.25 percentage points
  • This puts the overnight rate at 3.25% by year-end 2012 (Note: 3.25% happens to be a rough estimate for the “neutral” BoC policy rate…if not a tad low. A neutral policy rate is a BoC overnight rate that neither stimulates nor restrains economic growth.)
  • Rates remain flat for years 3-5 (Rates may fluctuate further but we’ll assume they average out to no change over that three year span.)
  • You have a $250,000 mortgage amortized over 30 years.

Deciding-between-fixed-and-variable-ratesIf these things hold true, which would perform better?

a) Today’s typical 3.94% 5-year fixed mortgage; or,

b) Today’s typical prime – 0.80% variable-rate mortgage?

Based on the numbers alone, the fixed rate has a $416 interest cost advantage over five years.

Does that mean you should go fixed instead of variable? Not necessarily.

There are several instances where someone might prefer to pay less interest up front, or have a three month interest penalty instead of an IRD penalty. In those and other cases, a variable may be the better fit.

The point here is just that 5-year fixed and variable mortgages are now neck and neck based on the big banks’ future rate assumptions (for what those are worth). Would it pay to roll the dice on a variable rate to save a bit of interest? You and your mortgage advisor should make that call.

As a side note, if you’re well-qualified and shopping for a mortgage, talk to a mortgage professional about shorter terms as well. As we speak, there is decent value in 2- and 3-year fixed terms.

Sources for quotes: Globe & Mail, Globe & Mail II

Rob McLister, CMT