Stop! Yes, the banks’ prime rate rose from 2.4% to 3.2% with the first two benchmark rate increases this year. And yes, we will most likely see another rate hike from the Bank of Canada in June, and that could push the prime rate further, perhaps to 3.7%. It all seems out of control, unmanageable – and it will freak many out.
The truth is that banks are well positioned to take advantage of this type of environment. They will seduce you with a free offer to switch from a variable rate to a fixed rate. They may present you with a five-year fixed rate “offer” of 3.99% that expires in a few days; if you don’t act quickly enough, your rate will drop to 4.14%. They will try to convince you that rates will keep climbing until they hit the moon, and that it would be unwise to pull out a variable rate as we head into a possible recession.
The thing is, the days of locking in a fixed rate are over and the attractive five-year fixed rates of 2.59% to 2.99% are long gone – the train has left the station. Most variable rate holders were able to get discounts below prime of 1% to 1.25% or more, but these discounts are no longer readily available for refinances and conventional mortgage deals. If you already have one of these rates, chances are you have a dinosaur on your hands – it’s on its way to extinction as lenders reduce their discounts. In today’s market, you’re most likely to get a variable rate between prime minus 0.5% and prime minus 0.75%.
So, faced with this difficult situation, what should a variable rate mortgagee do? How to prepare for the expected rise in rates in the next 12 to 18 months?
Coaching variable rate mortgage clients is what I have been doing for over two decades. I am a proponent of the variable rate product and its benefits, and over the years thousands of my clients have saved tens of thousands of dollars in interest charges and reduced amortization by years, that is- ie the length of time they have a mortgage. Many customers were initially determined not to go the variable route, due to persistent myths about it. But over time, they realized how variable rates could work in their favor.
Here are five things to consider before committing to a five-year fixed rate mortgage in today’s environment:
1. Variable rates are always very competitive
If you commit to a five-year fixed rate mortgage in the 3.99% range today, you could end up paying almost double what you would pay with your current variable interest rate. The promise of peace of mind from your friendly neighborhood bank rep sounds great after you’ve been through a few Bank of Canada rate hikes, but chances are a variable rate customer will only pay 1.95% to 2.2% after recent increases. Even with a few more hikes, your variable rate will likely be well below current five-year fixed rates.
2. We are far from pre-pandemic loan rate
In March 2020, the Bank of Canada cut the benchmark policy rate three times due to COVID-19. We saw successive cuts of 0.5% on March 4, 16 and 27, a total reduction of 1.5% in one month, until the reference rate hit an all-time low of 0.25% . Even with the recent hikes, the Bank’s benchmark rate is still 0.75% lower than it was before the pandemic. By extension, the prime rate is also lower than before the crisis. The adjustable rate mortgage was a great option before the pandemic, and it remains so today.