Over the past 30+ years, people of traditionally come out ahead by choosing a variable rate mortgage, which leads many mortgage professionals to suggest for their clients to always go variable. But this blanket advice does not always work. Variable rates do not always win. This is why my advice on whether to choose fixed or variable rate will change depending on where rates are at the time, as well as on economic outlook. There are many factors involved.
In today’s mortgage world, fixed rates are lower than variable rates, which is quite rare. Variable rates are almost always higher than their fixed-rate alternatives. The last time we saw fixed rates lower than variable was following the US housing collapse in 2008. At the time, variable ‘discounts’ decreased from prime -0.60% to prime +1.00%, almost overnight. Within a couple of years, the discounts increased, therefore making variable-rate mortgages more attractive once again.
As of today, the discounts on the variable rates are now deeper than ever with rates as low as prime -1.25% (2.70%) – prime -0.85% (3.10%), depending on your situation. Comparatively, the lowest 5 year fixed rates range from 2.39% to 2.74%, again, depending on your situation.
The lower rates are for purchases or switches which are either insured, or have 35% or greater down payment or equity. The property must have a purchase price/value of under $1 OR the property must have been purchased prior to Nov. 30, 2016). The higher end of the spectrum applies to purchases or switches over $1 million and a 30-year amortization.
How much lower should variable rates be for them to make sense?
In order for me to comfortably suggest variable rates, I like to see a discount of at least 0.50% below fixed. As of now, variable rates are 0.31% – 0.36% higher.
We also do have to take into consideration economic conditions. I don’t think it is any secret that the next move by the Bank of Canada will be a cut to the prime rate. This could happen as early as the next scheduled rate announcement on September 4th. The Bank of Canada does not seem to think this is necessary, and leading economists are split as to what will happen next week.
Will prime rate drop on September 4th?
It may, but I’m thinking that they are going to hold off for the time being. Of course, time will tell.
If they hold their rate steady, then we’ll obviously have to wait a bit longer before we see a cut. I remain fairly confident that we’ll see a cut by the end of the year, if not next week. There have been more than thirty central banks globally who have already cut their rate this year. The Bank of Canada is however not among this group.
So how much longer can they hold off?
Again, time will tell. There is nothing the Bank of Canada would like more than to increase their rate at their first opportunity, however, I think we all know that this is not going to happen any time soon.
There is also a strong probability that we will see the Bank of Canada come through with a second cut at some point in 2020.
Does it make sense to choose variable considering the prime rate will likely be dropping?
If you choose to take a chance on the variable rate, and the BOC cuts their rate twice by the end of next year, then your variable rate would drop down below today’s lowest 5 year fixed rates.
So the variable rate is worth taking a chance on, right?
Not quite! Your variable will only drop down below today’s fixed rates IF the banks match the full rate cut. The last two times the BOC cut their rate, the major banks did not match the full 0.25% cut, and only cut their prime rate by 0.15%.
The question here is, will they do it again?
If they continue this trend, then you’ll still have a lower rate if you were to choose a fixed rate.
There is still a chance one could choose variable and come out ahead after five years, but I think you’d be taking a pretty big chance.
Is it possible that the Bank of Canada could come through with more cuts over the few years?
Possible… but that is major speculation. No one can say for sure what is going to happen. One year ago, it was widely predicted that we would see as many as three increases to prime rate in 2019 alone. All we can go on is the information we have at our fingertips at any given time.
I’m not saying that there is no way that variable rate will be a winner. No one can say that for sure, and there are some that still prefer variable rate over fixed.
Is variable rate right for you? Answer this…. how big of a gambler are you?
Paul Meredith is the author of the Amazon #1 best selling book, Beat the Bank – How to Win The Mortgage Game in Canada, and has ranked as one of the top 75 mortgage brokers in Canada since 2016. He was a finalist for Mortgage Broker of the Year in 2018, and can be seen as the exclusive mortgage broker on season two of TV’s Top Million Dollar Agent.