How will the recent rate cuts impact mortgage regulations

By Mark Kerzner, President, TMG The Mortgage Group

With the latest Bank of Canada (BoC) rate cut to 0.50% comes a reminder that many would like us to believe our housing market is tenuous.  Once again there is a lot of discussion about just how overheated our market is and the dire circumstances many current homebuyers are likely to find themselves at renewal time.

First, let’s think about why the Bank of Canada decided to cut interest rates once again last week. In January the BoC surprised many of us and cut the overnight rate in response to a rapid decline in oil prices.  This time around it did so because the Canadian economy has not rebounded the way the Bank had hoped.

In an effort to stimulate spending, the Bank used one of its levers to lower the cost of borrowing. In doing so the value of the loonie further decreased thereby making imports more expensive and exports cheaper. The hope is that foreigners will both invest in and buy Canadian goods.  The caveat to that appears to be Canadian real estate where many economists and policy makers would prefer that no additional investment takes place. The problem is, it’s hard to have it both ways.

The Canadian housing market is resilient – no doubt about that. But when we speak of the Canadian real estate market we really have to speak in terms of what is happening in Toronto and Vancouver and then the rest of Canada … the latter is nowhere near as hot as the former.

For the past seven-(ish) years the Bank of Canada, the Government of Canada, our mortgage Insurers and our lenders have introduced numerous lending restrictions designed to strengthen the underlying housing market, soften a blow at the time of renewal  --in the event of increased mortgage rates -- and reduce the rate of home price appreciation.  In the wake of these last two rate cuts, discussions are heating up again.

Now we are hearing rumours of increased down payment requirements as well as possibly reducing the maximum amortization. Both of these changes could have a significant impact on the market – and I do not believe the policy makers are looking for ‘significant’ market changes immediately preceeding an election. They could, however, prove to be precursors to a discussion to take place later this Fall.

In late 2008 the Bank of Canada reduced the overnight rate and the banks passed along only 3/4 of the reduction. So far in 2015 the banks have passed along only 30 of the 50 basis points.

While the banks do incur costs with each change to the overnight rate they are also ‘banking’ additional spread on both new and on their existing books of business. With arrears remaining at very low historical rates, and the high quality of borrowers, the banks are already protecting themselves from a potential overheating of the housing market. As such, to potentially trigger a downturn in the Canadian housing market by pushing regulations too far, such as increasing the down payment requirement to 10%, would not be prudent.

In the event the down payment requirements were to increase to 10% approximately 20% of first-time homebuyers could be affected. Some will find the means to borrow additional down payments and others may seek out secondary financing. At the margin, for the homebuyers that remain in the market, their cost of borrowing will increase.

Another “buy”-product of lower interest rates are lower bond yields. People look for better returns on their investments and some will move funds into equities.  Perhaps this will prove to be a good long-term investment strategy, though in the long run, real estate investing may turn out to be a sounder investment approach.

The reality is, in the wake of a massive global recession (2008-2009), followed by major geo-political uncertainty and a perilous Eurozone, our economy, and especially our housing market, have done phenomenally well. The steps taken over the past 6-plus years have proven prudent.

Once again we find ourselves in a sort of conundrum – borrowing costs are getting cheaper, the economy is stagnating yet our housing market, at least in two major cities, continues to push forward.  My concern is that we overshoot and impact one of the main engines -- first-time homebuyers -- that drives the marketplace.

I think it’s important to ensure that families who invest in real estate have the strength and ability to do so. I do not believe that policy makers should be trying to massage the actual market itself. As such, here are a few recommendations they may wish to consider.

• Register all first-time homebuyer mortgages at 30 or 35-year amortizations but set qualifications as well as payments at 25 years.  In the event of a future default, payments could then be set at 35 year amortizations to allow for some flexibility and preservation of cash flow.

• Keep the down payment minimum at 5%, though in certain geographic locations require liquid assets equal to 7.5% (plus closing costs).

• Index the cut off where mortgage insurance can be obtained. For instance a number of years ago a policy was created that restricts mortgage insurance on properties that were greater than $1M. That number should be indexed to allow for natural price appreciation (or depreciation) and geographic factors in the market.

 The housing and mortgage markets in Canada have proven to be resilient. Now more than at any point in our young history, it is vital for Canadians to seek the expert advice of mortgage brokers to navigate their options.

Why BMOs rate cut is good news for everyone

By Mark Kerzner, President of TMG The Mortgage Group

Last week BMO announced a cut to its 5-year fixed mortgage rate to 2.99%. This really isn’t a surprise since this is the third Spring in a row that the banks have been cutting fixed rates as a way to kick start the lending season. In both 2012 and 2013, then Minster of Finance quickly spoke against the move. This time, however, we have a new Minister of Finance who has stated that he will stay out of the mortgage market.

And like the last couple of times, the rate cut has given the broker industry a higher profile among consumers.

The first time we saw this offer we might have thought it was a blip, the second year we may have thought it a coincidence. Now that’s it’s happened again, we can safely call it a trend – during the Spring market, pricing seems to get hyper competitive. This is good news for both the mortgage industry and for consumers.

When BMO first introduced a 2.99% fixed rate more than two years ago, we posted a blog titled, BMOs Slap in the Face. Dan Pultr, Vice President of B.C. wrote, “brokers are silently cheering because this additional publicity will bring a renewed focus to the mortgage market; and the more noise generated by the banks, the more questions and more phone calls we get from clients.  As mortgage professionals, one of our goals is to educate the consumer to ensure they make the very best decision when it comes to their mortgage." 

In March 2013, we again wrote an article about the competitive mortgage market in the wake of BMO lowering its rate, albeit briefly, to 2.99%.

Let’s take a closer look at BMO’s recent 5-year, low-frill special:

•  It comes with a lower maximum amortization: 25 years max
• There is less lump-sum pre-payment ability: 10% maximum per year
• There’s a smaller payment increase option:  Up to 10%, once per year
• It’s a locked term:  The low-rate mortgage is fully closed unless you sell the property, refinance (with BMO only), or early renew into another BMO mortgage. In other words, unless you sell, you're not leaving BMO for 5 years.

Combine that with the fact that BMO's interest rate differential (IRD) for early payout is one of the worst out there; consumers may not want to risk being caught should they sell or have to pay out early.

There is, however, one big difference with this year’s rate offer -- the market was already at or near the 2.99% level. In some respects the banks have lagged instead of led.

Once again, the positive aspect is that it raises awareness for the mortgage industry and helps brokers reinforce their value proposition.

The other positive, is that other lenders will likely follow suit and match BMO’s rate or even go lower, which is good news for  consumers. So, whichever way you look at it – BMO’s rate-cutting trend is a win-win situation.

Gen-Yers and home ownership

There are nine million Gen-Yers or “millennials” in Canada, many of whom are financially savvy, have control of their money, take a long-term approach when investing and are keen to own their own homes.  Despite high student loans to repay and fewer job opportunities, millennials are thinking about money in very different ways than their parents.  According to TD’s 2013 Investor Insights Report, this group is saving to invest; they use the Internet to track the stock market through their mobile phones and are skeptical of financial advice, meaning they do their research.

The Index also found that millennials start investing when they are 20, compared to Boomers who started investing, on average, at age 27.  They would like to invest even more of their money, making them a group with serious financial clout. For many, home ownership is a priority.

Here are some facts about millennials; new learning we can all benefit from:

1. Millennials take a conservative approach when investing.  Forty per cent take a long-term, buy-and-hold approach. 
2. They currently invest 18% of their income but would like to invest up to one third of their income. The TD Investor Insights Index found that saving for retirement was a top investment goal followed by saving to buy a house, then travel, then achieving financial independence.
3. Millennials love TFSAA accounts because of the flexibility.
4. They are independent, ask a lot of questions about investments and do their research.

In 2013, the Canada Mortgage and Housing Corp, (CMHC) held seminars identifying this age group as a growing opportunity for the Ontario housing market. While millennials accounted for 15 per cent of home ownership demand in Ontario in 2012, by 2016 they will own about 35 per cent of the province’s homes.

About one-third or 30% of those interviewed online said they expected assistance from parents or family. Nearly two-thirds (61%) said they have made cuts to their lifestyle to save for their first home.

The interest in home ownership is nationwide. A Bank of Montreal report released on March 18, found that first-time home buyers have increased their home purchase budget by six per cent to approximately $316,000. In Vancouver, Calgary and Toronto, those budgets are even higher. Fifty-three per cent of home buyers in the Calgary market will even break their budgets for the right home, compared to the national average of 33%.

In British Columbia, the Gen Yers are redefining the housing market there according to Melanie Reuter, director of research for the Real Estate Investment Network who has written a report about it.
“They are a more urban group, no longer dependent on a car, partly because of cost, and partly because they genuinely care about sustainability.” she said in a Globe and Mail interview. “They didn’t get their driver’s license the day they turned 16, it’s almost a badge of pride they wear, not needing a vehicle.”

They use transit, so will want to be located close to work, and close to transit hubs. Many were likely raised in townhouses or condos, and are familiar with living in smaller spaces. “They also like new spaces, as opposed to old houses they’ll have to spend weekends fixing up,” Reuter added.

For 35% of millennials, finding trustworthy advice is their biggest challenge. Twenty-seven per cent learned about savings and investing from their parents and family, 18% are self-taught and nearly half (48%) manage their own portfolios online.

The latest Market Insights from the Canadian Association of Accredited Mortgage Professionals (CAAMP) found that millennials  are a little nervous and apprehensive about investing in a home; however,  the majority of those who are homeowners are comfortable with their decisions and would make the same decision again. 

Interestingly, the report also found that mortgage brokers are a key channel for millennials looking for mortgage information, advice and arranging their mortgages, and turn to brokers 40% of the time. The broker’s value as an advisor, coupled with a strong customer service approach hits home with this age group. Younger clients see brokers as valuable consultants helping them to understand their options.

It’s a group that can’t be ignored.

Good news for interest rates

By Mark Kerzner, President, TMG The Mortgage Group Canada Inc.

There’s good news on the interest rate front. In the Bank of Canada’s (BoC) most recent announcement it maintained its prime rate at 1%, however with one slight difference. Since 2012, the BoC’s report has included a tightening bias, warning Canadians that rates would soon rise. That bias was removed from BoC Governor Stephen Poloz’s recent report. Instead he is planning to hold the overnight interest rate at these low levels at least into 2015. The reason? Low inflation and a slow economy.  Inflation is sitting just above 1% (the BoC likes it near 2%) and annual economic growth is limping along at 1.6%. 

In the late Spring, it looked as if the end of these ultra low rates was near. The US FED had signaled it was going to slow down its Quantitative Easing (QE) of reducing its massive $85 billion dollars/month injection into the markets. Bond yields spiked approximately 80 bps shortly thereafter. This spike in yields led to an increase in fixed interest rates and a collective exhale at the BoC. After all, increasing rates would help to slow down the perceived overheating of the housing market.

At the same time, many consumers sitting on the sidelines saw the wave of increased rates coming and they 'bought forward'. This means they were potential buyers, but acted more quickly than they otherwise might have, to take advantage of the ultra low interest rates.

Just as the mortgage industry started to get comfortable with the recent round of increased mortgage rates, bond yields started to taper off – 40 basis points in fact -- over the past few weeks. If yields continue to fall, or even if they stay stable for a period of time, there may be some reductions in fixed rates yet again. And while this is welcome news for many, it is concerning for officials in Ottawa.

Also, variable rates are near prime-0.50% and the trend is towards bigger discounting. Now that the BoC has said there won’t be an increase until 2015, variable-rate mortgages will likely become more popular.

Since the BoC has not been able to raise rates nor curb spending in the housing market – sales in many markets continue to grow and house prices continue to rise. One way the Government can control the housing market is by making changes to the mortgage guidelines, so we might get some rule changes again.

In a meeting with private sector economists, Finance Minister Flaherty said he was not intending to interfere with the housing market "at this time." That would imply that he is not going to make any changes just yet.  What we have learned over the past five years is that "just yet" certainly means "it may be coming sooner than you think."

If, and that’s a BIG IF, the government believes that home prices are continuing to escalate out of control, and the housing market is overheating, it may act. What is holding them in check right now seems to be the notion that the market has 'bought forward’.  This may have caused a positive blip in housing activity in recent months.

Over the next few weeks we will have to pay close attention to housing market activity in Canada to see if it is indeed tapering, and also have to watch the impact if fixed interest rates do drop. In this respect, lower rates may not be such a great thing because we could be facing a fifth round of changes.  The talk on the street is if there are changes coming, it might be capping amortizations on conventional loans to 25 years, similar to high ratio loans.
We will wait and see.

Rising interest rates and your mortgage

By Mark Kerzner
President, TMG The Mortgage Group

Over the past few years it seemed every expert was telling us that interest rates would be rising, but after years of record low fixed rates, I think many of us stopped believing the headlines. 

With bond prices dropping and yields on the rise, those rates (fixed-rate mortgages) that are tied to bond yields have shown dramatic movement over the past month. For the most qualified, the rates on 5-year fixed mortgages have increased from a low of 2.89% to 3.59%, and are potentially still rising.

The term, “jumping on the band-wagon” now comes to mind. We see it most often with professional sports teams, fads, and sometimes even with politicians. It seems we may be seeing it in the mortgage industry as well. In the past week, I’ve read a number of articles speaking to the virtues of variable-rate mortgages.


Are variable-rate products quickly becoming the better option?

Do you remember the days of 5-year adjusted rate mortgages (ARM) priced at PRIME – 75 or even PRIME – 90? If you were fortunate enough to have one of those products and stayed with it over the course of the term, you’ve come out a winner. Since the last PRIME – 75 funded approximately four to five years ago, those rates have become extinct and now those clients renewing their mortgages have a choice to make.

Should they renew into a current ARM product at PRIME – 40(ish)or take the security of a fixed-rate term in the fear that rates will continue to rise?

Economists are predicting the Bank of Canada will hold the overnight rate steady into 2014. That said, take these predictions with a grain of salt as many of those same economists had already called for increases back in 2012 and 2013. Economic conditions change and so do outlooks and forecasts.

When looking to determine if there will be interest rate shock it’s important for mortgage renewers to consider not just their current effective interest rate, which may be PRIME – 75 or 2.25%. Rather, focus on what the rates were at the time the mortgage was funded when PRIME was 4.75% (August 2008) to the current rate options. 

In many cases there will be no shock at all, especially if clients took advantage of hold-the-payment options while rates started to decrease. For example, the effective interest rate and payments set at the time of funding was 4% and current 5-yr. fixed mortgages can still be had at the 3.39 to 3.69% range.

Relatively speaking, variable-rate mortgages are cheaper today at PRIME (3%) – 40 than they were five years ago when they were at PRIME (4.75%) – 75.  The spread between fixed rates and variable rates is sometimes referred to as the “rate premium” or even “fixed rate insurance” and is a good evaluator of the attractiveness between fixed and variable.

This time, five years ago, that spread was approximately 150 basis points (5-yr. fixed rates averaged 5.50%). Today that spread is around 100 basis points. If that spread grows, variable-rate mortgages will again become more attractive compared to their fixed-rate counterparts.

Before making any final decisions keep in mind two last items. First, in late 2008 both fixed rates and PRIME were dropping. Today, PRIME is remaining flat for the time being while fixed rates are rising.  Second, credit and lending guidelines have changed significantly in the past five years.

Today’s borrowers are better qualified and have fewer opportunities to defer interest costs using extended amortization and lower down payment options.  Those who are willing to take the additional risks of variable products are better equipped to do so than those in the past even though the risk premium is effectively higher than it was five years ago. 

That said, our rate environment today compared to August 2008 is quite different since both variable and fixed rates do not seem to be dropping. To really understand the best option, it’s best to discuss these factors with a dedicated mortgage broker. He or she will review the various products available and can help clients select the best one that fits lifestyle and financial goals.

Understanding the impact of these rising rates

It is possible that rising interest rates are here to stay, but I think it is important to ask the question: Is it just a blip or a trend? For those who believe it is a trend, here are a few important factors to keep in mind in a rising interest rate environment:

1. Affordability. According to its latest quarterly report, RBC says its affordability index reversed course, meaning housing has gotten relatively more expensive, in two of the three categories it measures. Mortgage rates in isolation don’t mean very much. What is really important though is how much your payment is relative to your income.

2. More people will select variable even though they still must qualify on the artificially-set benchmark rate. This is simply a reality of the mortgage business.  I see this trend continuing as long as the Bank of Canada does not raise its overnight rate.

3. Reduced demand for housing may result in lower home pricing. If affordability does become an issue, and more potential buyers are forced to the sidelines, then fewer people will be looking for houses. Economics would then dictate that with fewer people looking and supply remaining constant, this would lead to falling home prices.

4. Short term rush into the housing market for those sitting on the fence.  The flipside to point #3 above is that there are a great many people who have been looking at purchasing.  Rate increases might trigger buying activity out of concern that rates will keep rising and they may be priced out of the market.

5. If rates are on an upward trajectory make sure you get pre-approved with a rate hold as soon as possible. Fixed rates may be on the rise but you can often protect yourself against major increases, on a short term basis, with a rate hold.

6. If rates continue to rise and you originated your mortgage at your bank branch you must shop your mortgage at renewal.  There may be thousands of dollars at stake. This topic has been covered numerous times and there are many tips to be had. (http://blogger.mortgagegroup.com/2013/06/save-at-renewal-time-by-using-mortgage.html)

In the end, market volatility breeds uncertainty but it also brings opportunity. This is an ideal time to talk mortgage strategy with your mortgage professional.  The strategy is vital and is, in many respects, more important than the rate.

It may be time to consider the variable rate or, from a historical context, it may be a great time to consider locking in to a fixed-rate product.  Either way, it’s up to you to be proactive and seek out advice.