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interest rates

Rising Rates to Make New Stress Test Even Harder

Led by RBC, all of the big banks have now hiked their posted rates since last week by up to 20 bps on fixed terms.

Among the changes, RBC, TD, BMO, Scotiabank and National Bank of Canada raised their posted 5-year fixed rates by 15 bps to 5.14%, while CIBC upped its 5-year fixed by 10 bps to 4.99%.

These increases are expected to boost the Bank of Canada’s qualification rate (which is based on an average of the big bank rates) this week from 4.99% to 5.14%. This would mark the first time in four years we’ve seen the official 5-year posted rate above 5.00%.

The BoC’s qualification rate is all-important because it’s used for most mortgage testing. A hike this week would make it harder for most borrowers to qualify for a new mortgage.

“…a 5.14-per-cent qualification rate would cut a borrower’s buying power (maximum mortgage amount) by roughly 1.4 per cent,” RateSpy founder Rob McLister wrote in the Globe and Mail. “For a household making $70,000 a year, that means a $4,000 to $5,000 smaller maximum mortgage. And the actual impact could be even more depending on the borrower’s qualifications, contract rate, equity and whether they have default insurance.”

McLister added that mortgage borrowers haven’t had to qualify at rates this high since 2008, before federally-prescribed stress testing was introduced.

More Rate Hikes Expected

These aren’t the only rate increases borrowers should be watching.

The Bank of Canada is widely expected to raise its overnight target rate by another quarter point at its upcoming meeting on Wednesday. That would follow its last two quarter-point hikes in July and September.

“Based on the economic environment alone, the case for higher interest rates in Canada is airtight,” Scotiabank economists wrote in a January 12 research note.

They acknowledge Governor Stephen Poloz remains concerned about levels of household indebtedness and how that will be impacted by rising rates, as well as the potential housing slowdown due to the new B-20 regulatory changes.

“The challenge for the BoC will be to weigh these risks against incoming data—data that we expect to support a case for higher interest rates throughout the year,” they wrote, outlining an expected 75 bps worth of tightening over the course of 2018.

Meanwhile, OIS traders are pricing in an 88% chance of a rate hike this week.

A 25-bps increase to the prime rate, which currently sits at 3.20%, would increase payments for most adjustable-rate mortgage (ARM) holders and those with lines of credit. Variable rate holders won’t see their payments increase, but they will see the interest portion of their payments jump while their principal portion declines.

Many fixed rates have already been marching higher, due in part to a four-year high in bond yields in recent weeks (bond yields lead fixed mortgage rates).

According to Mortgage Dashboard, the average 5-year fixed rate available through brokers is now 2.94%, up from 2.92% a week ago and well up from 2.58% at this time last year.