Mortgage rates

[Paul Meredith]

You are right, there is a certain risk involved with variable. If you are risk adverse, it may be better to go with fixed. An additional question to ask you self when deciding, has the US\Canada economy recovered such that rates will increase?

Over the last 6-7 years with a spread of less than 1%, anyone who has gone variable would be on top of those who had gone fixed. There is a reason banks only let you switch from variable to fixed and NEVER the reverse. I cannot stress this point enough.

In the end it depends on comfort level. Right now getting a mortgage with these historically low rates you can borrow large sums of money for as close to nothing as you'll ever get. Rates only have one way to go right now, its just a matter of when...

Can tell me where you read this study? There was a time a few years ago when variable was actually higher than fixed rates for a short time. Quite unlikely anyone on variable would have benefited.

Will you benefit from a variable now? No one can say that for sure. What we do know is that prime rate has remained unchanged since September 2010. How likely do you think that we will go another 4-5 years without any increases? Maybe we will. Maybe we won't. I would say odds are better that we won't...but just like anyone else, all I can do is guess. The whole point is that variable is risker now than it has been in the past when the spread was between 1-2%. Anyone taking variable... you are taking a pretty big risk.

As mentioned previously, a 2.49% 3 year fixed rate vs. a 2.30% variable is only 0.19% difference. There is just no cushion to protect the borrower should rates increase.

 

[Paul Meredith]

What are the best 10-year fixed rates out there? I've seen numbers in the 4-5% range online. Is that realistic? Seems like a no-brainer to me to lock in at those rates for a decade.

Why would you want to pay over a full percent higher to protect yourself against something that may or may not happen? A couple years ago, 10 year mortgages dipped below the 4% mark, which led many to jump towards 10 year mortgages. As mortgage agents and brokers, we get paid more for selling these mortgages, so if you are considering a 10 year mortgage, make sure your broker or mortgage banker lays all the numbers out for you so you can make an accurate decision and never just go on a 'recommendation' without getting all the facts. Even when you could get a 10 year fixed at 3.89%, it was still a bad idea to pay over a percent higher for your mortgage. Now the 10 year fixed is back at 4.49%.

For example, let's say you are considering a 10 year fixed mortgage at 4.49% vs. a 5 year fixed at today's lowest rate of 2.73% for a $300,000 mortgage. At the end of the first 5 years, you will be a whopping $26,253.27 behind with the 10 year mortgage than you would be if you went with the 5 year (assuming monthly payments and a 25 year amortization with no extra payments made).

The break even rate in the above situation is 7.12%. This means, for you to come out ahead with the 10 year mortgage, the 5 year fixed rate at the end of the first 5 years would have to be higher than 7.12%. If it is lower than that, then you lose. That is a pretty big gamble. If you end up breaking your mortgage at the 5 year mark (most don't even make it that far), then the 10 year mortgage just cost you over $26K PLUS your penalty to break the mortgage.

While 5 year fixed mortgages very well may be higher in 5 years than the are now, I wouldn't expect them to start skyrocketing anytime soon. Given the state of the global economy, it is going to take years before we climb out of this mess. Could 5 year fixed rates be higher than 7.12% at the end of 5 years? Anything can happen, but there is a good chance that they won't be. If they are, then there may be other attractive options open to us at that time as well. Perhaps variable rates will start looking better again (they are already improving with rates as low as prime -0.70%), or even shorter term mortgages may be an option as well. Time will tell, but a 10 year mortgage would be quite a big gamble. You 'may' win, but you would have to stay in for the full 10 years to get any benefit, and that alone is a big gamble. As I mentioned, most borrowers don't even make it to 5 years, yet alone making it to 10.

 

[OolloO]

Can tell me where you read this study? There was a time a few years ago when variable was actually higher than fixed rates for a short time. Quite unlikely anyone on variable would have benefited.

Will you benefit from a variable now? No one can say that for sure. What we do know is that prime rate has remained unchanged since September 2010. How likely do you think that we will go another 4-5 years without any increases? Maybe we will. Maybe we won't. I would say odds are better that we won't...but just like anyone else, all I can do is guess. The whole point is that variable is risker now than it has been in the past when the spread was between 1-2%. Anyone taking variable... you are taking a pretty big risk.

As mentioned previously, a 2.49% 3 year fixed rate vs. a 2.30% variable is only 0.19% difference. There is just no cushion to protect the borrower should rates increase.

I think you are arguing against yourself now. You should ask your self the bolded questions taking into consideration the bolded rate and term. Or maybe you should compare 5 year fixed to 5 year variable.

Its not the increase, but the average over the entire term that should be considered. As long as the average rate over the 5 year term is less than the original fixed rate, you end up on top. Even if at the end of the term the variable rate is above the original fixed rate.

Can tell me where you read this study? There was a time a few years ago when variable was actually higher than fixed rates for a short time. Quite unlikely anyone on variable would have benefited.

I agree no one would have benefited from such an unusual case, nor do I think anyone took a variable rate over fixed during this time. Please adjust my estimate of 6-7 years to ~4.5 years ago. No study is needed. Simply google rate history comparisons or build your own comparison chart.

http://www.ratehub.ca/historical-mortgage-rates-widget

In the end we don't know if fixed or variable is the better option. Neither option should be dismissed, and should be decided based on risk tolerance. Only time will tell which edge out the other.

 

[Paul Meredith]

I think you are arguing against yourself now. You should ask your self the bolded questions taking into consideration the bolded rate and term. Or maybe you should compare 5 year fixed to 5 year variable.

Its not the increase, but the average over the entire term that should be considered. As long as the average rate over the 5 year term is less than the original fixed rate, you end up on top. Even if at the end of the term the variable rate is above the original fixed rate.



I agree no one would have benefited from such an unusual case, nor do I think anyone took a variable rate over fixed during this time. Please adjust my estimate of 6-7 years to ~4.5 years ago. No study is needed. Simply google rate history comparisons or build your own comparison chart.

http://www.ratehub.ca/historical-mortgage-rates-widget

In the end we don't know if fixed or variable is the better option. Neither option should be dismissed, and should be decided based on risk tolerance. Only time will tell which edge out the other.

We both agree it all comes down to risk tolerance. We also agree no one knows for sure. My whole point is that variable is significantly more risky in today's market then it was back when all the studies were done that showed people came out ahead with variable rate mortgages. I personally think that given the narrow margin, you are basically gambling by taking a variable rate and would have similar odds of coming out ahead if you took your money and went to the casino and bet on black at the roulette wheel (close to 50/50). No one knows if you would win or lose there either. The whole point is that if no one knows... doesn't that alone make it a fairly large risk? When the spread was 1-2% no one knew then either... but it was a relatively safe bet.

The reason i'm comparing the 3 year fixed with the 5 year variable is just to demonstrate what you can get for the first three years that would be guaranteed vs. a rate that is fairly close with no guarantees. It's a great alternative for anyone 'not sure'. At the end of three years, they may even be deeper discounts on variables. Or maybe a shorter term would make more sense at that time.

 

[DearSummer]

Why would you want to pay over a full percent higher to protect yourself against something that may or may not happen? A couple years ago, 10 year mortgages dipped below the 4% mark, which led many to jump towards 10 year mortgages. As mortgage agents and brokers, we get paid more for selling these mortgages, so if you are considering a 10 year mortgage, make sure your broker or mortgage banker lays all the numbers out for you so you can make an accurate decision and never just go on a 'recommendation' without getting all the facts. Even when you could get a 10 year fixed at 3.89%, it was still a bad idea to pay over a percent higher for your mortgage. Now the 10 year fixed is back at 4.49%.

For example, let's say you are considering a 10 year fixed mortgage at 4.49% vs. a 5 year fixed at today's lowest rate of 2.73% for a $300,000 mortgage. At the end of the first 5 years, you will be a whopping $26,253.27 behind with the 10 year mortgage than you would be if you went with the 5 year (assuming monthly payments and a 25 year amortization with no extra payments made).

The break even rate in the above situation is 7.12%. This means, for you to come out ahead with the 10 year mortgage, the 5 year fixed rate at the end of the first 5 years would have to be higher than 7.12%. If it is lower than that, then you lose. That is a pretty big gamble. If you end up breaking your mortgage at the 5 year mark (most don't even make it that far), then the 10 year mortgage just cost you over $26K PLUS your penalty to break the mortgage.

While 5 year fixed mortgages very well may be higher in 5 years than the are now, I wouldn't expect them to start skyrocketing anytime soon. Given the state of the global economy, it is going to take years before we climb out of this mess. Could 5 year fixed rates be higher than 7.12% at the end of 5 years? Anything can happen, but there is a good chance that they won't be. If they are, then there may be other attractive options open to us at that time as well. Perhaps variable rates will start looking better again (they are already improving with rates as low as prime -0.70%), or even shorter term mortgages may be an option as well. Time will tell, but a 10 year mortgage would be quite a big gamble. You 'may' win, but you would have to stay in for the full 10 years to get any benefit, and that alone is a big gamble. As I mentioned, most borrowers don't even make it to 5 years, yet alone making it to 10.

I feel sorry for your clients if this is the type of advice you're dolling out.

To say that a 10 year fixed rate is MORE risky than a 5 year fixed rate is absurd. You are paying a premium for the CERTAINTY of a 10 year fixed rate versus a 5 year fixed rate. A 5 year rate may save you money (depending on future interest rates), but it most certainly is not safer.

Nobody knows whether a 5 year or 10 year fixed rate is better, the same way nobody knows whether a variable rate is better than a 5 year fixed. It depends on what happens with interest rates. If you have a crystal ball, then you shouldn't be worried about mortgage rates because you'd be a billionaire.

I'm guessing you're a young guy based on your assessment that 7% mortgage rates in 5 years are unrealistic/unlikely to you. Throughout the 80s mortgage rates were above 10%. Heck, I think they even reached above 20% for a year few years.

Central banks can easily move rates up 1% or more per year. That would not be unprecedented or extreme by any means.

 

[Paul Meredith]

I feel sorry for your clients if this is the type of advice you're dolling out.

To say that a 10 year fixed rate is MORE risky than a 5 year fixed rate is absurd. You are paying a premium for the CERTAINTY of a 10 year fixed rate versus a 5 year fixed rate. A 5 year rate may save you money (depending on future interest rates), but it most certainly is not safer.

Nobody knows whether a 5 year or 10 year fixed rate is better, the same way nobody knows whether a variable rate is better than a 5 year fixed. It depends on what happens with interest rates. If you have a crystal ball, then you shouldn't be worried about mortgage rates because you'd be a billionaire.

I'm guessing you're a young guy based on your assessment that 7% mortgage rates in 5 years are unrealistic/unlikely to you. Throughout the 80s mortgage rates were above 10%. Heck, I think they even reached above 20% for a year few years.

Central banks can easily move rates up 1% or more per year. That would not be unprecedented or extreme by any means.

It is up to you as to how you want to interpret my advice. Of course anything can happen. I'm not saying you won't win by taking a 10 year mortgage. I am however saying that for you to even have a chance of this working out for you, you would most likely need to stay in the entire 10 years, and statistics show that very few even make it to 5 years, yet alone 10. If you break at 5 years, you paid $26,000 to the bank in unnecessary interest. You may have every full intention of staying in the 10 years, just as anyone taking a 5 year fixed as full intention on staying in for the full 5 years, yet most don't.. There are a number of reasons why someone might need to get out of their mortgage early, and some of them are quite unfavourable. It could be loss of employment, a job transfer out of country, personal injury preventing you from working, death, divorce, etc. Nothing anyone ever expects or plans on happening.

My whole point is, 10 years is a very long time and no one knows where their life is going to be. That is why it is a big gamble to take a 10 year mortgage. Yes, rates hit 20% in the 80's. Could it happen again? It happened then, so sure it could. It is up to you to determine the likeliness of that occurring in 5 years. It is just important to think strongly before taking a 10 year mortgage. I have clients that took out 10 year mortgages less than 5 years ago and they are already breaking them.

In the end, it is up to what you as a borrower feel comfortable with. If you feel more comfortable taking a 10 year mortgage, than by all means go for it. Just be aware of the risks of doing so, as I have pointed out.

I hope you found at least part of this post helpful in making your decision.

Good luck!

 

[DearSummer]

It is up to you as to how you want to interpret my advice. Of course anything can happen. I'm not saying you won't win by taking a 10 year mortgage. I am however saying that for you to even have a chance of this working out for you, you would most likely need to stay in the entire 10 years, and statistics show that very few even make it to 5 years, yet alone 10. If you break at 5 years, you paid $26,000 to the bank in unnecessary interest. You may have every full intention of staying in the 10 years, just as anyone taking a 5 year fixed as full intention on staying in for the full 5 years, yet most don't.. There are a number of reasons why someone might need to get out of their mortgage early, and some of them are quite unfavourable. It could be loss of employment, a job transfer out of country, personal injury preventing you from working, death, divorce, etc. Nothing anyone ever expects or plans on happening.

My whole point is, 10 years is a very long time and no one knows where their life is going to be. That is why it is a big gamble to take a 10 year mortgage. Yes, rates hit 20% in the 80's. Could it happen again? It happened then, so sure it could. It is up to you to determine the likeliness of that occurring in 5 years. It is just important to think strongly before taking a 10 year mortgage. I have clients that took out 10 year mortgages less than 5 years ago and they are already breaking them.

In the end, it is up to what you as a borrower feel comfortable with. If you feel more comfortable taking a 10 year mortgage, than by all means go for it. Just be aware of the risks of doing so, as I have pointed out.

I hope you found at least part of this post helpful in making your decision.

Good luck!

This post makes sense. Ultimately I wish Canada would switch to a system like the U.S. where rates are fixed for the duration of a mortgage in many cases. It's absurd to see people piling on huge piles of debt at 3% interest rates without doing a sensitivity analysis on what their payments will be at 6%. My main point is that too many people nowadays think interest rates will stay low forever. They think 3% is normal. It isn't. Lenders are essentially giving away money for free (i.e. at rate = inflation) right now. That can't continue indefinitely.

 

[Eug]

You mean the BMO Nesbitt Burns study? The one from the bank?

http://www.bnn.ca/News/2014/3/13/Fixed-mortgages-now-trump-variable-BMO.aspx

No, it is a previously published study from previous decades, and is often quoted. However I can't seem to find the link right now to the actual study. However, after the big housing market meltdown, and the rates dropped to record lows, he said the results of the study cannot be applied during this period, because of the unprecedented low rates.

I guess the more recent studies which put fixed rates in more favourable light, are in support of his comments previously.

In my case I am in a 5-year fixed at 2.89%. At the time I got that rate it was difficult for me to consider variable, because the discount off variable wasn't that great, and I was worried of course about rising rates. I believe the discounts off variable are better now, but what I would consider if I were getting a mortgage now it would be probably a three-year fixed. Note though in my case it's a little bit different than with some other people. I am nearing the end of my amortization, so the risk is different in my case.

And by the way, I did run the numbers years ago for ten year mortgages. And by my calculations at that time ten year mortgage seemed like a really bad idea. The only saving grace with ten year mortgages was that you could get out of the mortgage with a three month interest penalty after five years. Either way though, it would be very hard to make the numbers work in your favor. So in a way yes 10 year mortgages are quite risky financially, because you're paying such a huge penalty for that extra rate fix "insurance". I came to the conclusion that anything at 7 years fixed and beyond was simply way too expensive in most instances. The only fixed terms in Canada that really make sense are 5 years and less.

 

[cdr108]

ING direct, now known as tangerine, has 10-year fixed posted at 4.69%

 

[Eug]

ING direct, now known as tangerine, has 10-year fixed posted at 4.69%

Considering you can get a 5-year fixed for 2.89%-2.94%, even 4.69% for a 10-year just isn't very attractive.

(No frills fixed is even lower than 2.89%.)

 

[Paul Meredith]

Considering you can get a 5-year fixed for 2.89%-2.94%, even 4.69% for a 10-year just isn't very attractive.

(No frills fixed is even lower than 2.89%.)

Exactly. It's as I explained in detail earlier in this thread, if you want to go with a 10 year mortgage, be prepared to spend thousands (or even 10's of thousands) more in interest over the next 5 years, just in case mortgage rates skyrocket to ridiculous levels at some point over that period. Most people don't even make it to 5, yet alone 10.

You can actually get a full featured 5 year fixed for less than 2.89% and less than 2.79% for the no frills. And by no-frills, all that means is closing within 30 days and 5% prepayment privileges as opposed to 15%. Even with 5% prepayment, you can still pay $15,000 per year on a $300K mortgage over and above your regular scheduled payments. Which is more than most even need. If you don't need more, then there is definitely no point in paying for it.

 

[Eug]

2.84% and 2.74% respectively? I've seen occasional mention of that. Or lower?

 

[TrickyRicky]

Speaking of mortgage rates here is a kind of advanced question I've always wanted to know: How the heck does TD calculate it's mortgage schedule? I create my own spreadsheets to calculate the interest and principal schedules of mortgages and almost all the major lenders in Canada use the same method except TD. For the record US mortgages are calculated differently but TD doesn't use the American method either.

 

[Paul Meredith]

2.84% and 2.74% respectively? I've seen occasional mention of that. Or lower?

Yeah, that is pretty much it

 

[Paul Meredith]

Speaking of mortgage rates here is a kind of advanced question I've always wanted to know: How the heck does TD calculate it's mortgage schedule? I create my own spreadsheets to calculate the interest and principal schedules of mortgages and almost all the major lenders in Canada use the same method except TD. For the record US mortgages are calculated differently but TD doesn't use the American method either.

With fixed rate mortgages, all lenders in Canada calculate their payments, principal and interest the same way, including TD. A $300K mortgage at 2.99% amortized over 25 years will have an identical amortization schedule to everyone else.

With variable rate mortgages however, I believe TD compounds their interest monthly as opposed to semi-annually like most lenders (all fixed rate mortgages are calculated semi-annually regardless of the lender, but with variable it can be monthly, just seldom so). It has been awhile since I have dealt with TD (I stopped ever since they started registering all their mortgages as collateral), but from when I did deal with them, I remember this being the case.

This however would give you a similar payment and amortization schedule to what you would get in the US. You are saying though that isn't the case either. I really have no other answer for you other than possibly an error was made? I really don't see anything being any different than how I have explained it above. Probably in this case, the best people to ask would be TD