The Bank of Canada’s rate cut marks a key moment in this cycle, and especially so in the housing and mortgage markets. Most market participants have been eagerly awaiting this cut, and there will surely be a psychological boost now that the peak of this rate cycle has most likely been set. But, at the same time, a 25 bp trim to variable rates from 23-year highs is very little actual relief when most borrowers have already moved to lower fixed-rate mortgages.
Buyers have been mostly absent from the variable-mortgage market given much higher rates in that space. Over the latest 12 months, variable-rate mortgages have made up less than 10% of new lending, with most buyers borrowing at 5- year or shorter-term fixed. That makes sense from an affordability and qualification perspective given that those rates are a good 125 bps lower. It also means that, if the market is mostly operating on fixed rates right now, this week’s move doesn’t alter the calculus much even if it does provide a psychological boost. Canadian 5-year GoC yields are already down a full percentage point from the October 2023 high, which has helped pull down most 5-year fixed rates to, or below, 5%. There is already easing priced into the housing market system. Interestingly, 5-year GoC yields ended the week little changed from pre-BoC levels.
Even with the correction in home prices and the recent decline in fixed mortgage rates, affordability is still strained. Immediately returning affordability to pre-COVID levels would require either mortgage rates backing down to slightly below 4%; a 12% decline in home prices; or a like-sized jump in income levels—in reality, some combination of all three plays out over time. But the point here is that valuations are still a limiter on how quickly the market can rebound in the short term.
With that in mind, it’s no wonder that activity has been quiet while supply has been building this spring. Sales in Toronto and Vancouver were each down roughly 20% y/y in May, while active listings were up significantly—83% higher than a year ago in Toronto and 46% in Vancouver. The number of active condo listings in Toronto has never been higher, and single-detached listings are approaching post-GFC highs. Either everyone was waiting for confirmation from the Bank of Canada (we’ll see in the coming weeks), or the homebuying/investing calculus still doesn’t quite work. Our view has been that growing inventory and little actual mortgage-rate relief will keep the market from really taking off at this stage.
Finally, we’re not in the business of giving financial advice, and every borrower has a different risk appetite. But with the easing cycle now here, the variable vs. fixed question is arising again. The complication is that fixed rates still offer about 125 bps of value relative to variable, and many will need that buffer to qualify at current price levels. Hesitancy to lock in for 5 years at the start of easing cycle is also understood, which might leave 2- and 3-year fixed as the sweet spot for rate value: less term and the possibility of rolling into lower rates sooner. Indeed, we’d probably argue that the first 75-to-100 bps of easing should be relatively straightforward, but the next leg of the cycle back toward neutral policy rates (and therefore variable mortgage rates) could become more complicated by factors such as stubborn U.S. inflation and the Federal Reserve’s ability to ease into, and through, 2025.