Mortgage Interest Rates - Whither Do They Go?
by Ozzie Jurock
Friday, December 19, 2014
As featured in The Real Estate Weekly
In my newsletter Jurock’s Real Estate Insider, I get asked a lot of questions, such as: “Where is the market going?” “Which city is best to invest?” and “Which is better for investing: US versus Canada?” However, the most asked question is: “When are interest rates are going to rise?”
The reason is clear. If you want to get a new mortgage or have a mortgage coming up for renewal it is vital for you to make the right decision. Should you go long? Should you go variable? Should you lock in?
Ok, ok, so Ozzie, when are interest rates going to rise? Well, to find the answer to this question, you have to take a larger look at the mad financial world we live in. If we believe that the largest economy in the world (the US) and Canada are likely to raise rates next year, then locking in would be a good thing. But will they?
The Big Boys Think So...
For Canada, the Bank of Montreal looks for economic growth to average around 2.5 per cent and for various reasons sees “the output gap continue to close” (and inflation risks quietly creep up), and looks for the BOC to hike rates in October 2015. It further expects the US government to begin “hiking (rates) in June 2015.”
The TD Bank came out last month with a forecast that the Bank of Canada will raise its long-standing 1 per cent overnight rate in mid-2015. TD Bank predicts the short-term rate will hit 2 per cent by the end of 2016.
The Alternative View
OK, now we know about the big banks, but what do you think, Ozzie?
Well, look at it this way. The United States currently has about $17.5 trillion in debt outstanding. What this means is that if the interest rate on that debt were to rise by even 1 per cent, the annual federal deficit rises by $175 billion. Imagine a 2 per cent increase: deficit rises by $350 billion! Or god forbid, a 5 per cent increase, the annual federal deficit rises by $875 billion.
So, will they raise rates? Not likely. The US simply can’t afford the accompanying increase in its payments.
Further, any fears of coming hike in mortgage rates should be easing, washed away in a tide of cheap oil and a Canadian bond rate that will likely remain at below 2 per cent for some time. Bond rates – which determine long-term mortgage rates - could even go lower than the current five-year rate of 1.48 per cent.
It is savers who take it on the chin: Because of the current extremely low interest rate environment, tens of millions of retirees and long-term investors have seen their returns slashed, with reductions in their standards of living as well. In fact it is savers (and future generations) that will have to tackle the debt/inflation problem.
Having said that, we remain concerned that – given the mad world –there may come a “black swan” event. Something totally unexpected. Real estate think tank JREI believes that that a new quantitative easing program is not out of the question – even likely – in the US. But in the meantime we are getting more and more concerned about the rest of the world. Central banks are doing everything to keep the mad cash creation game going. We are keeping afloat on a sea of liquidity. The outcome? No one knows, but there will be a reckoning! Be very careful out there. Having liquidity may become paramount. Take your chips off the table, if you have not already –don’t gamble. Follow my golden rules below.
Anyone that thinks they can predict interest rates is a fool. But I’ll do it anyhow. We don't see the Bank of Canada raising the 1 per cent overnight rate any time soon and the prime rate, now at 3 per cent, could even go lower. But note: these interest rates are at lifetime lows and to lock them in may be the best investment you make. After all, more than 50 per cent of your mortgage payment you make goes into your equity (based on 3 per cent over 25 years).
Ozzie’s Golden Rules
If you are a flipper, go short term for your mortgage.
If you are a real estate investor in it for the long term, lock in your rates to the length of time that you wish to keep the property. You can get a five-year rate for 2.29 per cent and even a large apartment block can be financed at 3.7 per cent.
As a homeowner, lock your rates in. Only 15 years ago, a five-year term was 13.5 per cent. Get safe.
While governments can control prime rates, they cannot control bond rates. Bond rates govern your fixed mortgage terms.