Yields Boomerang From Lows


As noted Monday, it would take a strong rebound in bond yields to derail further reductions in fixed mortgage rates…and that’s exactly what we got.

The 5-year government yield has catapulted 30 basis points from Monday’s psychological 2% level. On a closing basis, that’s the largest 2-day advance since October 2009.

At the moment, we’re 6 basis points above the 5-year yield on June 3. That’s the day when banks last cut advertised fixed rates. If yields continue much higher, current bargain basement five-year fixed rates (like 3.59%) could disappear posthaste.

Among other things, this whipsaw in yields is being driven by:

  • Today’s stunning surprise with May inflation (At 3.7%, headline inflation is on its fastest pace since 2003. Although, some analysts see this as temporary given recent easing in commodity prices. Core inflation [which is more relevant for interest rate policy] also exceeded forecasts at 1.8%, just under the BoC’s 2% target.)
  • Improving odds of a Greek debt restructuring
  • Technical factors (Bond traders are taking money off the table after almost three months of aggressive buying.)
  • Rebounding equities (and asset allocation out of bonds)

As of yesterday, financial markets weren’t fully expecting a rate hike until spring 2012. Today’s news has brought those expectations closer. Overnight index swap traders are now pricing in a 60% chance of a December increase (up from 30% on Monday). We may also start hearing more economists become vocal in support of a fall rate move.

Be that as it may, CIBC economist Avery Shenfeld suggested today on BNN that the BoC will still need to see real sustained “demand” before lifting rates. A big spike in headline inflation, on its own, doesn’t justify removing liquidity from the system.

Rob McLister, CMT


  1. Got this question via our Twitter Mortgage News feed and it’s very relevant:
    “Isn’t it time we find a better mechanism for interest rates (than bond yields)? It’s like using a second hand to measure a marathon. Thoughts?”
    That raises a key distinction worth reminding folks about. Short-term rate and yield fluctuations mean virtually nothing for long-term mortgage strategy. Where they do have relevance is with timing rate holds…

  2. “”Isn’t it time we find a better mechanism for interest rates (than bond yields)? It’s like using a second hand to measure a marathon. Thoughts?”
    I used to work doing bond analytics on Wall Street, and then worked as a trader. The question is, in a certain sense, nonsensical. Let me explain:
    (1) A bond is a stream of cash flows, often with a lump sum payment at the end (the principal), but it can also be structured like mortgage, with equal payments over the life of the bond.
    (2) The *price* you pay for a bond determines a value we call the yield-to-maturity of the bond. You can think of this as the rate you would have to invest the price you paid in a savings account in order to obtain the cash flows of the bond.
    (3) The bond market determines prices for bonds, such as those issued by sovereign countries, corporations, including banks, etc.
    From 1-3: the bond market *is* the market for interest rates, period. So fixed rate mortgage rates cannot be based on anything else. (If they deviated substantially, this would create arbitrage opportunities.)
    Unless you have a magic uncle named Ben ;-).

  3. Hi Jason,
    The first question hinges on the term selected, your goals, qualifications and risk profile. Yields are just one part of it. Individual client recommendations aren’t made in this forum so you’re best off calling a competent mortgage adviser for a situation-specific recommendation.
    As a very general statement, I’d expect discounted 5-year fixed rates to start climbing if the 5-year GoC breaks 2.35-2.45%—depending on lender. We closed at 2.30% today: http://bloom.bg/cSmOlD
    The second question depends on the tea leaves and if I could read those I’d be typing this from my beachfront island paradise. :-)

  4. Boomerang is right! Maybe this is the beginning of the climb upwards Rob?
    Call me crazy, but I think some higher rates would be a good thing; get back closer to normal and reward some prudent savers and investors around here.
    Not to mention, reward some folks who took out 5-year fixed mortgage rates in the mid-low 3% range over the last year :)

  5. Hi Mark, It’s been a tricky rate cycle; that’s for sure. Every time it looks like rates are upward bound, global risk or weak data turn bonds around. By the time we know yields have made a bottom, we’ll already be far on our way to the top. ;)

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