The Canadian bond market is sending real estate a message — credit is going to tighten. Government of Canada (GoC) 5-year bond yields hit the highest level in a year today. Yields for the segment are now triple the level they were last year. Since GoC bond yields influence mortgage rates, this will drive the cost of a mortgage higher.
Government of Canada 5-Year Bond Yields and Mortgages
The GoC 5-year bond yield is related to the interest charged on mortgages of similar lengths. Credit markets compete by looking for lenders willing to part with their money. Mortgages are a little less secure than GoC bonds, so they pay higher yields. After all, if they charged the same rate, why wouldn’t you just get a government bond? They need to add a premium, usually somewhere between 15 and 30 basis points. As the 5-year bond yield rises, so does the interest cost for an insured 5-year fixed-rate mortgage.
Rising rates are generally good news, meaning the economy needs less stimulus. Higher financing costs tend to consume more income, and reduce profits though. Therefore it tends to cool demand for goods, which can slow the economy’s growth. This makes it much more difficult for home prices to rise. During the pandemic, the opposite happened, and bond yields dropped like a stone.
GoC 5-Year Bond Yields Have Climbed Nearly 50%
Canada’s 5-year bond yields surged to the highest level in over a year. The yield hit 1.244% on October 12, 2021, up 13.64 basis points (bps) from 5 days ago. Compared to a month before, yields have now climbed 44.19 bps — nearly a third of the current yield. This is an extremely sharp climb, especially for a recessionary environment.
Government of Canada 5-Year Bond Yield
The percent yield of the Government of Canada’s 5-year bond.
Source: Bank of Canada; Better Dwelling.
GoC 5-Year Bond Yields Are Back To Pre-Pandemic Levels
The pandemic might not be over, but the outlook for the economy is in a completely different place. Last year at this time, yields were hovering around 0.36% after getting some sharp cuts to the overnight rate. Now they’ve climbed more than triple that level, and are at the highest rate since February 2020. That’s right, it’s at the highest rate since before the pandemic was declared. Except this time, it’s accompanied by a much higher unemployment rate, and driven by inflation.
BMO recently suggested this is the ideal time to lock in rates since we’re just off the bottom of the cycle. The only thing that can keep them from climbing is a sudden demand shock or a double-dip recession. Neither are totally out of the cards, but that would be a real recession, instead of an induced one.
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