Tuesday, January 10, 2012

Time to lock in mortgage rates? Variable rates not as enticing

The days of getting any sort of discount on a variable-rate mortgage are over - again.

The mortgages, tied to prime, have become a mainstay of the housing market. And why not?

While prime stood at 3 per cent at most major financial institutions, the discount has meant a rate as low as 2.1% at times this year.

However, in the past 10 days what was left of that discount - already shrinking for weeks - has disappeared at all the major banks.

You have to head back to the credit crisis of 2008 to find a similar period during which the discount disappeared. At that time, consumers were paying a 100-basis-point premium above prime for the privilege of a floating rate.

The new reality is expected to reshape the mortgage market in coming months, reversing a trend that had consumers roll the dice on interest rates, confident they were not going up.
Just how confident were they? Mortgage Professionals says 37 per cent of consumers opted for variable-rate mortgages over the past year, bringing the total percentage of those with a floating-rate mortgage to 31 per cent. To be clear, anybody with an existing mortgage is unaffected until they renew. Why would you want to re-new early or lock in if your present rate is 2.1 per cent?

"If you have 3½ years left on that term, you are not going to give it up," said Vince Gaetano, adding that you can borrow at 3.29 per cent if you lock in for five years or 3.09 per cent for four years. "The last decade I've been telling people to go variable but I'm saying go fixed (for new clients)."

The other key advantage for a term five years or longer is you get to use the rate on your contract to qualify for a mortgage, as opposed to the current five-year posted rate of 5.39 per cent. The difference means you'll qualify for a larger loan by locking in.

Will Dunning, an economist, said his group was not surveying consumers the last time short-term rates climbed like this so he can't be sure what the reaction will be this time.
Farhaneh Haque, director of mortgage advice and real estate-secured lending, says she is already seeing the effects as people shy away from variable-rate mortgages. Her financial institution is not offering any discount on prime these days, a move necessitated by rising borrowing costs for the bank.

"I think there is a whole different conversation that we are having now than we were a few years ago," says Haque, adding that at today's rates fixed products have their own attraction.
"The stability it offers with a low rate makes it more affordable."

It should also be mentioned that the spread between the five-year government bond and the posted rate for a five-year mortgage has been climbing rapidly, which means more profit for banks.

In particular, the con-dominium market seems the most vulnerable as investors trying to stay cash flow-positive, all but impossible in the current condo market, based on rental rates and the costs of carrying a mortgage with a 20 per cent down payment.

Investors have opted for cheaper variable-rate products to try to keep costs down as they wait for a payday based on capital appreciation.
"You know, 80 basis points below didn't make much sense either. I think variable at prime is the new normal. They won't go higher unless we get a new crisis," says Tal, adding that banks were not making much money on variable-rate mortgages with the steep discounts, so they backed away from them.

Tal's information points to the record high for variable-rate products being driven by investors, and he thinks the new rates will hit that segment of the market.
"I think you will see an impact on the investor market in the next six months. The shift hasn't happened yet," Tal says.
Clearly there is no discounting how dependent the housing sector has be-come on cheap money.

Long-term mortgages are creeping down to record lows while bank profit mar-gins on that segment of the market work their way back up to record highs. Banks are getting squeezed on the short end of the spectrum, even losing money in some cases.

But the spread between the posted rate on a five-year mortgage and the government five-year bond - a barometer for bank's funding costs - has been rising steadily.

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