About Face in Yields: Two weeks ago the 5-year government yield (which leads fixed mortgage rates) was poised to break out to the upside. It has since made an abrupt U-turn and fallen 15 basis points. That suggests that widely available 2.99% five-year fixed rates will persist at least another week or two — maybe longer.
Paying Pressure: For the next few weeks, Bank of America Merrill Lynch rates strategist Ruslan Bikbov says swap spreads should widen. That could lift fixed mortgage rates slightly, other things equal.
The catalyst behind this is lenders’ increased demand for hedging rate risk on fixed mortgages (swaps are derivatives that enable that hedging). This increased demand is somewhat typical in the busy spring housing market. It should have only a limited inflationary impact on fixed mortgage rates.
Game On With Discounts: Upward pricing pressure may be partly offset by BofA’s other observation. In an April 11 report it wrote:
Finance Minister Joe Oliver has signalled that, unlike the late former Finance Minister Jim Flaherty, he is unwilling to intervene in the rate-setting policies of banks. This should incentivize banks to compete for borrowers by reducing mortgage rates. As a result, we expect a stronger pick-up in mortgage origination relative to last year.
A Lower New Normal: One decade ago the long-term average overnight rate was 4.40%. But now, the neutral rate (i.e., the overnight rate at which Canada’s economy is neither stimulated nor slowed) has declined. Going forward, the overnight rate could settle below 3.00% long term, says CIBC. If true, it implies that deeply discounted variable rates could top out near 4.00% over the next five years. Read more…
Trader Bets: Fixed income traders are betting on just an 11-basis-point hike in the overnight rate, one year from now. (Source: Westpac Bank OIS Implied Rates)
Rob McLister, CMT (email)