If you think the Bank of Canada’s recent decision to cut the already low key interest rate will add fuel to an already hot housing market, think again, TD Bank says. The rate cut — which has left some people scratching their head — will not be a game changer for the housing market, a new report by TD Economics says.
While TD recently upgraded its housing market forecast predicting increased home sales and rising prices, the improvement is attributed to the large decline in mortgage rates over the first part of the year.
I spoke with TD’s chief economist to understand what all the fuss is about and if future homeowners and investors should be worried about the rate cut. “The rate cut will not be a game changer,” explains deputy chief economist Derek Burleton. It will only create a small drop in the variable rate of mortgages, something most borrowers shouldn’t worry about. When it comes down to it, what really affects housing activity is the five-year fixed posted mortgage rate. “That’s the rate that borrowers must be income tested against to qualify for a mortgage,” Burleton said.
In addition, the majority of borrowers get a fixed mortgage rate, a rate that will not fluctuate with the market interest rate. Five-year mortgage rates are driven by five-year government bond yields sitting near record lows, TD said. It is very unlikely bond yields will continue to drop. “In fact, we think global forces will pull Canadian bond yields slightly higher as the year rolls forward, as rate hikes in the U.S. draw closer and global conditions improve,” TD economists wrote in their report.
But why is then the Bank of Canada cutting its rate? “The economy has not performed very well. The bank wants to give a stimulus to the economy through lower rates and through a lower Canadian dollar. But it’s not going to overheat the housing market,” Burleton said. Despite record low-interest rates, housing affordability is eroding as average home prices continue to grow at twice the pace of average households incomes. “People can’t keep up with prices, so this will definitely balance out and cool off the housing market,” Burleton said. Here are a few charts on Canadian home prices and sales: