Overview

Not long ago, many experts had written off variable-rate mortgages, predicting their revival only when mortgage rates showed signs of decline. However, as we enter October, it seems the tide is turning, and homeowners are showing renewed interest in variable-rate options.

The Rise of Variable Rates

In July, the percentage of variable-rate mortgage quotes increased to 13%, marking a three percent rise from the previous month.

Some consumers believe interest rates have peaked and are anticipating rates may drop in 2024 or 2025. If that’s the case, taking a variable rate now, riding out the higher rate for the next year until rates begin to drop, could prove cost-effective for some.

This renewed interest in variable rates contrasts with the peak popularity they enjoyed during the height of the pandemic housing boom. In July 2022, a whopping 57% of all mortgage quotes were for variable-rate mortgages. However, as the Bank of Canada raised its interest rate from an all-time low of 0.25% to five percent, homebuyers increasingly turned to fixed-rate mortgages.

By December 2022, interest in variable-rate mortgages had fallen to 26% of total quotes, hitting a low of 10% in June 2023. Now, with fixed and variable rates closely aligned, homeowners are revisiting the variable option.

Note that in some situations, even a modest 25 basis point decrease could bring the current average 5-year variable rate in line with the current average 3-year fixed rate, potentially leading to long-term savings for borrowers.

Betting on the Bank of Canada

Many economists share the sentiment that interest rates may have reached their peak. The Bank of Canada's July rate hike came with a signal that future moves would be data-dependent. Some experts argue that rates are already at "restrictive" levels, which can slow economic growth and inflation.

Economic indicators, such as a weakening labor market and signs of cooling inflation, further suggest that rate cuts are not imminent. RBC economists predict that the Bank of Canada will keep rates unchanged as the Canadian economy faces headwinds in the second half of the year.

However, while rates may have plateaued, the prospect of significant rate cuts remains distant. RBC expects the Bank of Canada to consider rate reductions only in the third quarter of 2024, with gradual decreases in subsequent quarters.

For homeowners facing mortgage renewals, this news might offer cold comfort. A recent survey revealed that 62% of homeowners are concerned about higher payments upon renewal, a 9% increase from the previous year. Those renewing this year or next may see their mortgage rates double. For instance, a mortgage secured at three percent in 2018 could rise to 6.05% if renewed this year, the highest rate in 16 years.

The Bank of Canada has decided to maintain its benchmark interest rate at 5.00%. This pause comes after ten consecutive rate hikes since March 2022. In July, the Bank raised the rate by 0.25% due to concerns about persistent inflation. Here are the key highlights:

Canadian Housing and Economic Performance:

• Canada's economy has entered a period of weaker growth to alleviate price pressures.

• Second-quarter 2023 economic growth contracted by 0.2%, reflecting weakened consumption, declining housing activity, and wildfires' impact.

• Household credit growth slowed due to higher rates.

• Final domestic demand increased by 1% in Q2, supported by government spending and business investment.

• Labor market tightness is gradually easing, with wage growth at 4-5%.

Inflation Facts and Outlook:

• Recent Consumer Price Index (CPI) data indicates persistent inflationary pressures.

• CPI inflation rose to 3.3% in July, averaging around 3%.

• Temporary increases in gasoline prices are expected to raise CPI inflation further.

• Core inflation remains at about 3.5%, showing little recent downward momentum.

• Persistent high inflation poses risks to price stability.

Global Economic Indicators:

• Global growth slowed in Q2, particularly in China.

• Weakness in China's property sector has diminished growth prospects.

• The United States saw stronger-than-expected growth, driven by consumer spending.

• Europe's service sector strength offset manufacturing contraction.

• Global bond yields have risen, reflecting higher real interest rates.

Summary and Outlook: The Bank holds the policy interest rate at 5%, citing easing excess demand. It remains concerned about underlying inflationary pressures and is ready to raise rates if necessary. The Bank will assess core inflation dynamics and the outlook for CPI inflation.